Product Recall Coverage Overview
A growing market for specialty coverage for product recall has emerged in recent years. Although such coverage has been available to some degree in the insurance marketplace since the late 1980s, and has long been prominent in Europe,1 it has become more widely available and more popular in the United States within the last five years. This can be attributed to a number of factors, including the increased number of publicized recalls, a recognition that food-borne illnesses are becoming more common, and fears about avian flu and terrorism risks. Further, in the aftermath of the contaminated spinach recall and recent recalls involving Chinese suppliers and subcontractors, a number of insurers have announced plans to target the Chinese market for new product recall products.2 Particularly in the Chinese market but also more generally, coverage will require evidence of proper testing and controls through the supply chain.
Typical policies cover the costs associated with the actual recall event and may also include coverage for third-party liability (such as bodily injury claims) or first-party property claims, including lost profits, extra expense and property damage to the insured's own property. Wide variety exists in the scope of coverage and in particular policy provisions in product recall policies. Each policy must be carefully considered in light of the facts presented and the relevant policy provisions, limits and sub-limits. However, some common elements of such coverage (in whole or in some combination) include the following (subject to sub-limits and exclusions):
Accidental contamination: accidental or unintentional contamination or impairment of the insured's product (including mislabeling or incorrect instructions) that occurs as part of the production, manufacture, packing or distribution of the product and either results in bodily injury or property damage or poses an imminent threat of bodily injury or property damage.
- Example: In re ConAgra Peanut Butter Products Liability Litigation, No. 07-1805 (N.D. Ga.) (pending) (alleging salmonella contamination in Georgia plant leading to recall of tainted peanut butter).
Malicious product tampering: actual or threatened intentional or malicious alteration or contamination of the insured's product such that it is rendered dangerous or unfit for use or consumption.
- Example: The most famous example is the Tylenol tampering situation in 1982, resulting in a number of deaths.
Product extortion: a threat to commit malicious product tampering for the purpose of extorting money or other consideration from the insured.
Forced recall: any recall of the insured's product arising out of bodily injury or property damage or the threat thereof that is ordered by a state, federal or local governmental agency or judicial body.
- Example: Forced recalls routinely occur with respect to automobile parts.
If an insured suffers a loss falling within the definition of any of the above categories of losses, covered items may include the following, for example:
Recall costs: may include costs of advertising, notice, correspondence and transportation necessary to effectuate the recall of the insured's employees, overtime, expenses necessary to effectuate the recall, costs to reimburse and/or liability to wholesalers, distributors or retailers or other downstream parties, costs to repair or replace the insured's product, disposal or destruction of the insured's products in connection with the recall, etc.
Consultant costs: fees and costs of independent experts retained to advise and assist in the product recall.
Lost profits: lost profits (typically subject to a time limit and/or sub-limit) suffered as a result of the product recall.
Product restoration or rehabilitation costs: expenses incurred to rehabilitate the insured's reputation or reestablish the insured's product, including advertising, promotional or repackaging expenses.
Exclusions under product recall coverage may include:
- Changes in population, customer tastes, economic conditions and the like.
- Costs and expenses of litigation before governmental bodies as a result of a covered loss.
- Any directive or demand for cleanup of pollutants as a result of a covered loss.
- Deterioration, decomposition or transformation of the chemical structure of the insured's product unless caused by a covered loss.
- Intentional acts by personnel of the insured.
Product recall specialty coverage typically requires that subrogation rights be preserved and that the insured take steps to mitigate any losses associated with a covered product recall loss. These examples by no means describe all of the elements of product recall coverage and, as noted, there are differences in scope of coverage and specific policy provisions in different products.
Potential Coverage Issues
Although coverage under product recall policies is intended to be broad, myriad coverage issues still arise. As discussed below, some relate to the extent of coverage under the policy, and others relate to the availability of coverage at all. Among the issues that may arise that are common to many product recall policies are the following:
Definitions of Covered Losses
Questions may arise as to whether actions taken by the insured with regard to deficient or impaired products properly constitute a "recall" within the meaning of the policy. This may depend on whether the recall is self-initiated by the insured or is mandated by a government agency—product recall policies differ on coverage for these two situations. Further, who initiates the product recall (i.e., the insured, a government body or a third party) can be determinative. See, e.g., Sokol and Co. v. Atlantic Mut. Ins. Co., 430 F.3d 417, 424 (7th Cir. 2005) (excluding coverage under a Product Recall Expense Endorsement to a CGL policy because the recall was initiated by a third party, and not the insured or a governmental body as required by the policy terms).
Similarly, questions may arise as to whether a loss was caused by "accidental contamination" within the meaning of the policy. Coverage may depend on the source of the product problem. Typically, coverage for "accidental contamination" is limited to accidental or unintentional contamination or impairment that occurs as part of the production, manufacture, packing or distribution of the product. Other product deficiencies may not qualify. The success of a claim may depend on whether the contamination occurring during production was, in fact, "accidental" or, rather, was caused by intentional disregard for plant sanitation or safety requirements. Alternatively, contamination may have occurred subsequent to the production, manufacture, packing or distribution stages.
Similar arguments could be made with respect to whether the loss falls within the definitions of "malicious product tampering" or "product extortion," as those terms are defined in a particular product recall policy.
Reasonableness and Calculation of Covered Costs
As noted above, covered items under product recall policies include recall costs and consultant costs. In addition, such policies may also include coverage for lost profits and for the costs incurred to rehabilitate the insured's reputation or product. Of course, product recall policies do not provide complete coverage for any and all costs without limit. The costs must properly qualify as covered costs pursuant to the specific policy terms. In addition, such costs must be reasonable, properly documented and directly tied to the product recall itself. Insurers must carefully evaluate such costs, which can be quite large and can cover a wide variety of different types of expenses and activities. For example, the costs associated with the Mattel toy recalls will include everything from transportation and shipping costs, advertising and expert consultant fees to the costs of additional employees and overtime expenses (to name just a few). Close consultation between the insurer and the insured while the recall is taking place and in the aftermath with regard to retention of experts and the expenditure of such sums is advisable. Further, careful review of invoices and documented costs is crucial. Costs to rehabilitate the reputation or product of the insured can be particularly amorphous and must be carefully scrutinized. Experts may be needed with respect to the calculation of covered lost profits.
Some product recall coverage explicitly provides coverage for insured products even where the product is incorporated into a third party's product. Whether coverage exists and the extent of coverage for "impaired property" (i.e., a third party's product that cannot be used because it incorporates the insured's product, component or ingredient that is known or thought to be deficient) can be a hotly debated question and depends on the particular policy language at issue.
In Thomas J. Lipton, Inc. v. Liberty Mut. Ins. Co., 314 N.E.2d 37 (N.Y. 1974), the court addressed the scope of coverage under a product liability insurance policy for recall claims made by a soup manufacturer, into whose products the product of the named insured, a noodle manufacturer, was incorporated. Six varieties from the soup manufacturer were discovered to contain contaminated macaroni and noodles, necessitating the withdrawal of all six soups from the market for destruction and recall of all its stocks of macaroni and noodles. The soup manufacturer then brought action against the noodle manufacturer to recover the costs of the recall, and the noodle manufacturer sought coverage under its product liability policy. The insurer argued that a policy provision excluding coverage for withdrawal and recall of the insured's product extended to both recalls by the named insured and recalls by a third party into whose product the named insured's product was incorporated. Rejecting this argument, the court held that the policies afforded coverage for the expenses incurred to withdraw the soup manufacturer's product because the terms of the exclusion only applied to recalls of the insured's product, not third party recalls.
As noted, the insured typically is required to take steps to mitigate loss in connection with a product recall. Issues involving the extent, speed and scope of mitigation steps (including the insured's readiness response plan) are likely to arise. This issue may be particularly prevalent where the insured's business is uniquely susceptible to product recall problems, as in the auto or food industries, and, accordingly, insureds in those industries should be fully prepared to address recall issues.
The duty to mitigate was raised by the insurer in National Union Fire Ins. Co. v. Stroh Cos., Inc., 265 F.3d 97 (2d Cir. 2001), in which a bottling company sought coverage under a contaminated products policy for glass contamination in beverages bottled at one of its plants. Among the insurer's arguments was that the insured failed to comply with the "due diligence" clause in the policy requiring it to "exercise due diligence to do all things reasonable and practical to avoid any happening or circumstance covered by this policy and to make all reasonable efforts to mitigate any Loss arising as a result of an Insured Event." The insurer argued that the insured improperly failed to discover the contamination problem at the plant prior to purchasing insurance coverage; the court held that there was no factual basis for this argument. The insurer also argued that the insured breached the clause through unnecessary delays in the product recall, which the court again determined had no basis in fact. Accordingly, the court held hat the insured had not breached the due diligence clause in the policy. 265 F.3d at 112-113.
Who Is the Insured?
As noted, some product recall policies include in the definition of "recall costs" costs to reimburse third parties or liability to "downstream" third parties (such as retailers and distributors). However, depending on the facts presented, issues may arise about whether a party in the chain or commerce has direct coverage under the policy as an insured. Insurers must evaluate whether entities beyond the named insured may be covered under their policies, as well as whether their own policyholders are potentially covered under other policies. To the extent that multiple policies may respond to a claim, issues may arise concerning priority of coverage (as discussed below) and allocation, which will depend in part on the application of other insurance clauses in the policies.
Intersection with Liability or Property Coverage
To the extent purchased, product recall specialty coverage is unlikely to dovetail perfectly with general liability or property coverage also purchased by the insured. Issues can and have arisen regarding the intersection of such coverage, including the line between products hazard coverage in liability policies and product recall coverage, products versus operations coverage and priority of coverage.
Although presented in the context of a general liability policy, not product recall coverage, a key issue raised by the insured in the famous McNeilab coverage case was the availability of coverage for both third-party claims and first-party recall costs associated with a recall by a drug manufacturer. See McNeilab, Inc. v. North River Ins. Co., 645 F. Supp. 525 (D.N.J. 1986) (interpreting the "sistership" exclusion in the liability policies). Such claims were rejected by the court on the ground that the policy purchased was a general liability policy providing coverage only for third-party claims and not for first-party losses sustained by the insured. 645 F. Supp. at 539.
Although coverage under product recall insurance policies is intended to be broad and comprehensive, myriad coverage issues may still arise. Some relate to the extent of coverage under the policy (such as reasonableness of costs) and others relate to the availability of coverage at all (such as coverage for medical monitoring claims). Insurers must carefully consider the facts and circumstances of any product recall claim against the specific policy language to determine the scope and extent of coverage.