Why it matters

The Eighth U.S. Circuit Court of Appeals found that a manufacturer of dried milk was entitled to defense and indemnification after facing a lawsuit from a purchaser that recalled its products out of fear of tainted milk. The federal appellate panel determined that the sale of the milk was an “accident” under the policy and the “Your Product” exclusion the insurer relied upon was inapplicable. The court concluded that the property damage claimed in the underlying suit occurred to a purchaser’s product, not the milk itself. The importance of this decision is the confirmation that the “your product” exclusion only applies to damage to the product itself and not to damage to a third party’s product.

Detailed Discussion

Main Street Ingredients purchased dried milk products from Plainview Milk Cooperative in 2007 and, in turn, sold the products to Malt-O-Meal. Malt-O-Meal then incorporated the dried milk into its instant oatmeal products.

In 2009, the Food and Drug Administration found salmonella bacteria on food-contact surfaces and in areas used to manufacture dried milk products in Plainview’s plant. In response, Plainview issued a voluntary recall notice of dried milk produced from 2007 to 2009, stating that it had “the potential to be contaminated with salmonella.”

Malt-O-Meal recalled its instant oatmeal as a result and then filed suit against both Main Street and Plainview. Main Street and Malt-O-Meal reached a deal to settle the suit for $1.4 million.

Main Street’s insurer The Netherlands Insurance Company provided a defense with a reservation of rights but sought a declaration that it had no duty to defend or indemnify the insured for the settlement.

The Eighth Circuit reached the opposite conclusion, ruling that Malt-O-Meal’s complaint triggered both a duty to defend and indemnify. Although the settlement deal did not include a finding of liability, the court said it was enough for Main Street to establish a finding of potential liability in the underlying litigation.

Netherlands argued that no property damage actually occurred in the underlying case because there was no factual finding that either the dried milk or the instant oatmeal contained salmonella. But the three-judge panel said the FDA’s findings included 13 instances of unsanitary conditions, including salmonella, and testimony from Plainview’s general manager established that some of those conditions dated back to 2007.

“[T]he dried milk was ‘prepared, packed, or held under insanitary conditions whereby it may have become contaminated with filth, or whereby it may have been rendered injurious to health,’ and was therefore ‘adulterated,’ whether or not it contained salmonella, so too was the instant oatmeal,” the court explained, quoting the FDA’s letter. Whether or not the oatmeal could be safely consumed, it could not be sold lawfully.

“According to Minnesota law, this constitutes physical ‘property damage’ to the instant oatmeal and Main Street has ‘show[n] it could have been liable under the facts shown,” the panel said. The court further found that an “occurrence” existed under the policy. “Because Main Street did not intentionally sell to Malt-O-Meal FDA-condemnable dried milk, the sale of FDA-condemnable dried milk was an ‘accident’ that constituted an ‘occurrence’ under the policy,” the court said.

Policy exclusions put forth by Netherlands failed to change the court’s mind. The “Your Product” exclusion was inapplicable because Main Street sought indemnity not for damage to its milk, but for damage to the Malt-O-Meal oatmeal caused by the inclusion of the milk.

“Main Street did not seek indemnification for property damage to its dried milk, but for property damage to Malt-O-Meal’s instant oatmeal, that is, the product liability settlement amount with Malt-O-Meal,” the panel said. “Malt-O-Meal manufactured a new product that included Main Street’s product as an inseparable ingredient such that the damage was to Malt-O-Meal’s entire product, which could not be alleviated by repair or replacement of Main Street’s product. The dried milk, once incorporated, could not be separated from the other ingredients in the instant oatmeal.”

The tainted milk did not fall under an exclusion for impaired property because it could not “be restored to use,” the court added, while a recall exclusion did not apply because Main Street’s claim was not for its recall expenses but Malt-O-Meal’s property damages.

To read the decision in The Netherlands Ins. Co. v. Main Street Ingredients, click here.