In disputes over the scope of liability coverage, courts must often draw a line between (1) providing insurance against errors that harm others and (2) broadly guaranteeing the work product of the insured.  The problem is most obvious in construction cases, when claims against the insureds arise from their own faulty workmanship. Recently, it has also emerged in connection with the food and drug industries.  Last month, in Hot Stuff Foods, LLC v. Houston Casualty Co. (8th Cir. Nov. 17, 2014) the U.S. Court of Appeals for the Eighth Circuit ruled that a product contamination policy did not cover a voluntary recall of mislabeled food products, because such a recall “remain[s] part of an insured’s cost of doing business.”

Warning! Contents Are … Undisclosed!

Hot Stuff Foods is a manufacturer and seller of consumer food products, such as convenience store pizzas and event concession products.  Its branded products include the Sausage Breakfast Sandwich, which is assembled at a processing facility in Shakopee, Minnesota. The Sausage Breakfast Sandwich does not contain monosodium glutamate (MSG), but MSG is an ingredient of sausages made at a different Hot Stuff facility, in Sioux Falls, South Dakota.  In January 2011, Hot Stuff discovered it had inadvertently used Sioux Falls sausages in nearly 200,000 cases of Shakopee sandwiches.

MSG is a flavor enhancer that the FDA considers “generally recognized as safe,” but which is sometimes associated with headache, numbness and other discomforts—a group of symptoms known collectively as “Chinese restaurant syndrome.” When MSG is added as an ingredient to a food product, it must therefore be disclosed on the product’s label.  The labels on the Shakopee sandwiches did not disclose the presence of MSG, which rendered them “misbranded” under federal law.  Hot Stuff immediately reported the situation to the Food and Drug Administration and the U.S. Department of Agriculture.

At the time, neither agency had explicit authority to compel a recall (they do now), but regulations enabled both of them to threaten severe consequences for failure to institute recalls voluntarily.  For example, 21 C.F.R. § 7.40 defines “Recall” as “a voluntary action that takes place because manufacturers … carry out their responsibility to protect the public,” but the same provision states that a Recall may be “undertaken … at the request of the” FDA, and that “[s]eizure, multiple seizure, or other court action is indicated when a firm refused to undertake a recall [so] requested.”  Directive 8080.1 of the USDA’s Food Safety and Inspection Service creates different “Recall Classifications,” ranging from Class I (“where there is a reasonable probability that the use of the product will cause serious, adverse health consequences or death”) to Class III (“where the use of the product will not cause adverse health consequences,” as where the recall is based on “the presence of undeclared, generally recognized as safe … substances”).

Hot Stuff agreed to recall sandwiches distributed between August 2010 and January 2011, of which approximately 40,000 cases remained in commerce.  The FDA and USDA agreed that the recall would be designated as a Class III recall.  When the recall had been completed, there had still been no reported case of a consumer’s becoming ill from eating a mislabeled Shakopee sandwich.  By then, Hot Stuff had incurred more than $750,000 in expenses, and suffered an estimated lost profit of $200,000.

Hot Stuff!  Insurance!

Many commercial general liability policies expressly exclude coverage for losses from recalls, but Hot Stuff was insured under a Malicious Product Tampering/Accidental Product Contamination policy issued by Houston Casualty Company.  The policy provided coverage for losses from “Accidental Product Contamination,” which was defined to include:

any accidental or unintentional … mislabeling … of the Named Insured’s PRODUCTS (including their ingredients or components) … provided always that consumption or use of the … PRODUCT(S) has, within 120 days of such consumption or use, either resulted, or may likely result in …physical symptoms of bodily injury, sickness or disease or death of any person(s) … .

Hot Stuff sought indemnification under the policy, but Houston Casualty denied coverage, asserting that the claim did not involve an “Accidental Product Contamination.”  Hot Stuff then filed a declaratory judgment action in federal court in South Dakota.  The court granted summary judgment to the insured on the issue of coverage, and it conducted a trial over the amount of damages.  Houston Casualty appealed.

Try It!  You’ll Like It!

Because it was undisputed, both that the Shakopee sandwiches had been mislabeled, and that “no one had reported becoming ill from eating them,” the question of coverage turned on

whether consumption of Sausage Breakfast Sandwiches to which between 0.0638 grams and 0.1276 grams of MSG had been added ‘may likely result‘ in ‘physical symptoms of bodily injury, sickness or disease [in] any person(s)’

The district court had found the phrase “may likely result” to be ambiguous, because the words “may” and “likely” “essentially balance each other out.”  The Eighth Circuit disagreed:

In our view, the parties to this insurance contract fixed where in the range of product contamination risks coverage should end by choosing a term requiring more than a possibility of physical injury (‘may’), but less than a probability (‘likely’).… [T]he words ‘reasonably likely to result’ come to mind as capturing this concept … 

In the district court, where the parties had cross-moved for summary judgment, the two sides submitted conflicting expert opinions about how “likely” it had been that the MSG in the Shakopee sandwiches would cause physical symptoms of sickness or disease.  Reviewing those opinions, the Court of Appeals concluded that “whether consumption of the mislabeled [sandwiches] ‘may likely result’ in physical symptoms … is a genuine dispute of material fact.”  It reversed the award of partial summary judgment and remanded the case:

[U]nless the district court determines on remand that summary judgment is appropriate based on the full trial record, the coverage question must be submitted to a jury.

Insurance Is Not a Warranty

Although the analysis in Hot Stuff focused on the meaning of a single phrase, the opinion also reflected broader concerns.  Although actual injury to consumers is a traditional basis for liability coverage, the court noted that “[t]he need to recall contaminated or adulterated product is a recognized risk of doing business in the heavily regulated food industry“—especially because some recalls (Class III Recalls, like the one at issue in Hot Stuff) may be undertaken “where the use of the product will not cause adverse health consequences.”

The court suggested that this is “why insurers and food industry insureds would agree to limit … coverage to recall incidents in which consumption … ‘resulted, or may likely result’ in physical symptoms.”  An Accidental Product Contamination policy is a type of liability policy; it “‘is not a recall insurance policy.'”

Covering voluntary recalls that have no direct relation to public health hazards would increase the cost of the insurance, extending coverage to voluntary actions that should remain part of an insured’s cost of doing business.

[C]onstruing ‘may likely’ to require only the possibility of harm [as the district court did] would expand coverage to the point that ‘virtually every cost associated with quality control‘ could plausibly be considered covered under the policy.

As noted above, this type of distinction has long been the observed in the construction context, but it has recently suffered some erosion that favors insureds. Disputes over accidental contamination coverage have a much shorter history; as the coverage is applied to a greater range of fact patterns, it is likely to face similar challenges.