In a meticulous lesson on the doctrine of “Functus Officio” the New York Appellate Division, First Department has given the arbitration world an erudite explanation of when an arbitration decision is final and not subject to change in American International Specialty Lines Insurance Company (AISLIC) v Allied Capital Corp.
The case at issue was an insurance coverage case in which Allied (the claimant) sought coverage for a settlement into which it had entered. Allied claimed that the settlement was a “loss” under the policy wording and that it was entitled to reimbursement and to defence costs. The policy contained a mandatory arbitration clause, but apparently did not specify any procedural rules; so, the arbitration was held before a tribunal, ad hoc.
The tribunal entered a partial final award (PFA 1) on liability (at the parties’ request) on a motion for summary judgment, but postponed a ruling on the request for defence costs on the grounds that it needed to hold a hearing as there were factual issues, principally as to amount. The tribunal held in the award that the claim against the insurer was denied as the settlement did not constitute a “loss” under the policy, but it held that the claimant was still entitled to defence cost reimbursement. Although the issue of defence cost reimbursement was not officially bifurcated by any order or written decision of the panel, the claimant had conceded in one of its briefs prior to the PFA 1 ruling that “the quantum of attorneys’ fees need not be decided on this motion but could be the subject of a separate evidentiary process in the event coverage was found.” Since defence costs were not finally adjudicated, the tribunal issued a “partial final award.”
After PFA 1 was issued, the claimant moved the tribunal to have its finding of “no coverage” revisited in that, it claimed, it was in error, because they argued the tribunal had ignored key policy provisions.
Five months later, the tribunal issued a second partial final award (PFA 2, which became a final award after the amount of defence costs were adjudicated) completely reversing its PFA 1 holding. It now stated that claimant was in fact entitled to full coverage for the settlement, since it did constitute a “loss”; and defence costs.
The respondent (insurance company) began an action in the Supreme Court, NY County, to set aside PFA 2, on the grounds that the arbitrators had exceeded their authority and had violated the doctrine of functus officio. The lower court denied the application on the grounds that the initial partial award, PFA 1, was not a “final award” since the defence costs (damages) were yet to be decided, and hence that the tribunal could, within its rights, “correct errors” and reverse itself.
The Appellate Division, in a four to one ruling reversed, holding that PFA 1 was final and binding as to the coverage issue it had addressed. The court rejected the argument made that the arbitrators themselves had to intend the award to be a “complete determination of all claims submitted to them,” which would also include damages. The First Department relied upon the Second Circuit’s 1991 opinion in Trade and Transport v Natural Petroleum Charterers Inc, holding that “if the parties agree that the [arbitration] panel is to make a final decision as to part of the dispute, the arbitrators have the authority and responsibility to do so… [and] once [the] arbitrators have finally decided the submitted issues, they are… functus officio, meaning that their authority is ended” (at paragraph195). The Appellate Division in this case held that the tribunal and the parties understood (or should have understood) that PFA 1 would be a final award on liability.
The court held that by moving for summary judgment on liability and agreeing in briefs and at oral argument that defence costs would be adjudicated later, even though there was no formal bifurcation order, the claimant had de facto agreed to bifurcation and hence the tribunal’s PFA 1 was a final resolution of the liability question and could not be revisited, as had been done with the issuance of PFA 2. In overturning the arbitration tribunal’s ruling in PFA 2, the court concluded that the tribunal had exceeded its authority by violating functus officio. The court held that:
“’Functus officio’ means ‘without further authority or legal competence because the duties and functions of the original commission have been fully accomplished’ [ Black’s Law dictionary, 787, 10th Ed. 2014]. The doctrine presumes that an arbitrator’s final decision on an issue strips him of authority to consider that issue further (Employers’ surplus Lines Ins. Co. v. Global Reins. Corp.-US Branch, 2008 WL 337317 *4, SDNY 2008). Indeed, under this doctrine, when parties request that an arbitrator finally determine an issue and the arbitrator has done so, the parties must be confident that the determination cannot and will not be revisited by the arbitrator and that the award determining such issue is final.”
The decision was rendered by a panel of five judges, one of whom issued a lengthy and robust dissent. The dissent argued that there was no specific agreement by the parties to bifurcate liability and defence costs and that the tribunal never ruled that a bifurcation had occurred; and as such, functus officio should not be applied in this situation. The dissent said that functus officio only applies to prohibit an arbitrator from revisiting an award after a final award is made; which did not occur until after PFA 2 was rendered. The dissent argued that a court is bound by the factual findings of the tribunal, citing Wein & Malkin LLP v Helmsley Spear, Inc, and that in this case, the majority imposed its own view of bifurcation. The dissent states that: “[T] here is no binding New York State authority on the effect bifurcation has on the application of functus officio. The majority opinion in this case is the first reported New York decision ever to recognize a bifurcation exception to functus officio.”
Another argument put forth by the dissenting judge was that if the first partial order (PFA 1) had been challenged in court for any reason, that challenge would have been dismissed as being non-final or as an interlocutory order. (The court cited Matter of Andrews v.County of Rockland and Jones v Welwood for this proposition. However, Andrews only states that an award will be vacated as non-final if it does not finally dispose of an issue raised by the parties or creates a new controversy; and here PFA 1 did dispose of the liability of the insurer to the claimant issue.) The dissenting judge held that: “[T]he finality requirement to determine whether an award is ripe for judicial review is the same finality requirement to determine whether an arbitrator is functus officio.”
Clearly, this case presents a novel issue under New York law; that is, when and whether functus officio kicks in in a partial final award by the arbitrator.
The first major problem in this case is that neither the tribunal nor the parties clearly articulated before PFA 1 was issued that the dispute regarding defence/attorney’s fees was bifurcated. Had either done so, in writing (which was apparently their original intent), then this current dispute would never have come about. Lesson one to arbitrators: when bifurcating attorney’s fees or another part of the case, put that in a written order.
The second major problem in this case is that it was ad hoc, with no agreement to follow any provider’s rules. Interestingly, all of the arbitrators were JAMS arbitrators but the parties never agreed to follow JAMS rules. In fact, all five appellate judges agreed that JAMS rules did not apply. Had JAMS rules applied, the tribunal could not have reversed its holding set forth in PFA 1 (JAMS Rule 24(j) limits corrections to a partial final award to “computational, typographical or other similar errors”). Had AAA rules applied, the tribunal could not have done what it did (See, AAA Commercial Rules R-50 [“The arbitrator is not empowered to redetermine the merits of any claim already decided.”]). On the other hand, had CPR Rules applied, the tribunal would have needed to state as part of the partial award whether it viewed the award as final (Rule 15.1); the implication being that if it did not do so, then the award would not final and may be changed (Rule 15.6).
Lesson two to arbitrators: ad hoc arbitrations, without any rules being adopted, invariably present unique issues arising from the inherent chaos of the procedure, which can cause problems down the road. Insist that the parties follow some provider’s rules.