With recalls of products ranging from children's toys to pet food to ground beef and peanut butter, this past year has proven to be a watershed for product safety issues. Such recalls have attracted widespread media attention, leading to diminished public confidence in product safety. Government regulators and industry officials also have turned their attention to product safety issues and as a result, voluntary standards have been tightened and expanded, and Congress has unveiled several pieces of sweeping legislation.1And, those companies grappling with product recalls have been faced with loss of reputation, damage to their brands and businesses, defense and liability costs, and in some cases, bankruptcy.
As this year has proven, insurance has the potential to mitigate significantly a company's product recall-related risks. For example, this year's $30 million settlement of the Menu Food's pet food recall litigation was made possible by insurance coverage. And according to one well-known food liability plaintiffs' lawyer, over the last 10 years his clients have received at least $100 million from one insurance company alone. By the same token, without adequate insurance coverage a company can slide into bankruptcy, as in the case of the Topps Meat Company, which was forced into bankruptcy after 67 years in business due to the costs of recalling millions of pounds of meat allegedly at risk of being tainted with E. coli.
Long before a risk becomes a reality, consumer product companies (regardless of their place in the supply chain) should make insurance a key component of their compliance and risk management program by following these initial ground rules:
1. Anticipate consumer product risks and insurance needs . Ensure that the company's risk management team and legal counsel meet at least annually to discuss risks and anticipated exposure, review past claims experience, and analyze developments in the industry. Once risks are identified and prioritized, and worst-case scenarios are considered, a company should coordinate with its insurance broker and risk manager to consider the entire range of insurance products available that may provide coverage for consumer product-related losses.
2. Negotiate for the best coverage . Seek competing bids and negotiate for the coverage needed if the insurance initially offered would not adequately protect the company. A company's ability to negotiate likely will depend on the type of coverage sought, the company's past claims experience, the consumer product industry generally, and the state of the insurance market in a given year.
3. Avoid being "penny-wise and pound-foolish." Do not forego additional coverage without first taking the long view and carefully considering the risks of doing so. For example, if the company intends to purchase only a general liability policy that excludes product recalls, you should negotiate with the insurer to fill that gap in coverage. While short-term costs will be higher, if your company is involved in a consumer product recall, the increase in premium will have been well worth it.
4. Procure sufficient insurance coverage . In addition to considering the policies your company should purchase, consider seeking assurances that your supplier is also purchasing sufficient coverage. If possible, the company should insist on being added to its supplier's insurance policies as an additional named insured. This alternative to an indemnification agreement provides for direct coverage that is not subject to the supplier's ability to pay. In fact, recently introduced legislation requires foreign manufacturers to bond their merchandise when it is being sold in the United States.
After taking these ground rules into consideration, consumer product companies should consider purchasing the various types of insurance policies discussed below, each of which may provide coverage for consumer product-related losses.
Comprehensive General Liability Coverage . Comprehensive General Liability ("CGL") policies typically cover third-party claims for bodily injury or property damage. In addition to paying liability, CGL policies also typically require the insurer to defend lawsuits against the policyholder. Given the substantial costs companies may incur in defending consumer product lawsuits, it is worthwhile to purchase this insurance for the defense coverage alone. However, policyholders should be aware of the CGL policy's exclusions, which typically bar coverage for losses stemming from recalls or damage to the company's own products.
First-Party Property Coverage . First-Party Property insurance provides coverage for losses arising from damage to a company's own property. Depending on the terms of the policy and the type of damage, such insurance may cover the loss of recalled products themselves, although some courts have reached different conclusions on the issue.
Product Recall Coverage . Product Recall insurance can sometimes be added to another policy to fill the gap where such claims are excluded. Product Recall coverage is intended to cover a company for its own financial loss suffered as a result of a recall, such as the cost of physically removing the product from retailer shelves, storing or disposing of the product, and in some cases the cost of rebuilding the company's reputation following a recall. Last year's Menu Foods' pet food recall - the largest in history - reportedly engendered costs of approximately $50 million.
Business Interruption Coverage . Business Interruption insurance covers losses due to the shutdown of a product line or the entire company, but often only applies where there also is physical damage. Depending on the terms of the policy, this type of insurance may cover losses due to a decision to shut down because of a contamination that is in turn caused by physical damage to the facility.
Directors and Officers Liability Coverage . Directors and Officers Liability ("D&O") insurance typically covers defense and indemnity of claims alleging "wrongful acts" by company officers and directors, such as shareholder suits relating to wide-scale product-related injuries.
5. Carefully review the company's policies at the time of purchase . The company's risk manager should review draft policies before they are issued, paying close attention to potential exclusions. The company should confirm that the final version of the policy accurately reflects the intended coverage. If a provision seems ambiguous, seek to clarify it and consult with insurance counsel if necessary. All policies should be copied electronically and secured off-site; do not rely on the broker alone to safeguard them.
And once the risk becomes a reality, and a claim arises, companies at a minimum should do the following:
1. Carefully review the company's policies again and do not accept conventional wisdom. All policies should be more closely reviewed as soon as there is a potential for a recall, government investigation or lawsuit. Risk management and counsel should review the coverage available under all of policies discussed above to determine which policy(ies) might cover the loss. Risk managers and counsel should not limit this review to what they assume is the policy most obviously providing coverage - indeed, coverage may be available under multiple types of policies, including policies that at first blush may be assumed not to provide coverage.
2. Provide immediate notice to the insurer when a claim arises . Many policies require that the policyholder provide notice "as soon as practicable," and others require it be provided "immediately." This step is crucial and will help the company avoid the risk of losing its coverage. The company should avail itself of the benefits of the insurance it paid for without being concerned about jeopardizing its relationship with its insurer. The moment a potential claim for coverage arises, the company should contact insurance counsel, who will assist in assessing coverage and providing notice.
3. Do not accept "no" for an answer. In the event the company is denied coverage, be persistent. Do not assume that the insurer is correct or that a court would agree with its reasons for denying the claim. Instead, consult with insurance counsel to ensure that the company obtains the insurance coverage to which it is entitled. Countless companies have obtained billions of dollars in insurance coverage despite their insurer having initially denied coverage.
Risk is an inevitable part of any business. But with recent media attention, high-profile class action settlements, and regulatory and legislative initiatives, companies need to take a fresh look at their compliance and risk management programs, including their insurance portfolios. Maintaining sufficient insurance coverage can help businesses mitigate at least some of the risks and exposure associated with consumer product recalls. In the best-case scenario, a company will have no need to use its insurance, but in the worst-case scenario, it will be glad to have such a valuable corporate asset at its disposal.
(Some information in this material was published in the article "Protect Against Food Contamination Losses," Donna L. Wilson and Elissa O. Tomanda, Food Quality, Volume 15, Number 2, April/May 2008, Copyright © 2008, Wiley Periodicals, Inc.)
1A related article on page 54 this issue authored by Christie L. Grymes, also of Kelley Drye & Warren LLP, discusses Consumer Product Safety Commission compliance.
Published June 1, 2008.
