By Greg Doherty, Bolton & Company | May 1, 2015
The dietary supplement industry has an opportunity to obtain broader product contamination coverage than ever before.
Five years ago, I wrote an article about product recall insurance for the dietary supplement industry, analyzing what it did and did not cover, and under what circumstances. I also made the distinction between the two kinds of this insurance that are available.
One is so very inexpensive that you may wonder what you really have (and with good reason; it’s window dressing at best).
This article will focus on the second, more comprehensive product recall insurance, offered by only a handful of specialty insurers. We will further examine a brand new insuring form for this comprehensive policy that provides broader coverage than was previously available.
What’s at Risk?
The primary concern for a supplement company is the probable large cost of a product recall event, which can be devastating when you consider:
- The direct costs of the recall for you and your customer, who will pass costs on to you without hesitation. (These include but aren’t limited to media costs, shipping and disposal costs, lab testing costs, necessary travel and accommodation costs related to the recall, rental of additional warehouse or storage space, and legal fees and expenses);
- Your and your customers’ lost gross profit;
- Refunds to customers for recalled contaminated products;
- The likely necessity to retain a recall-crisis consulting firm to manage the overall recall event on your behalf.
Key to understanding this new but somewhat complex policy is the difference between a coverage trigger and a coverage. You need to trip a coverage trigger to have any of the standard or optional coverage parts respond. The four coverage triggers (also called “Insured Events”) in this new policy are:
- Accidental Product Contamination means any accidental or unintentional contamination of your products (including mislabeling of instructions for use) during their manufacture, packaging or distribution, which either has resulted or would result in bodily injury to any person.
- Government Recall of your products, pursuant to a determination by a responsible government authority that there is reasonable probability the consumption of your product has resulted, or would result, in bodily injury to any person.
- Malicious Product Tampering (including extortion) means actual, alleged or threatened intentional, malicious and illegal contamination of your products (remember Tylenol?).
- Adverse Publicity means the reporting of an alleged Accidental Product Contamination or Malicious Product Tampering in any local, regional or national media, including the Internet, or any government publication that names both your company and its products, or names you and your customer if you made finished products for them (contract manufacturers take note!).
The term “Recall Policy” is often used to describe these policies, leading many people to believe the coverage is triggered solely by a recall. This is not always the case. Recall Expenses is one of the coverages you get when the policy is triggered by an Insured Event—hence, the distinction between “coverage” and “trigger.”
How the New Policy is Different & Better
Historically, insurers in this field commonly used wording that stated the recall event must be “ordered by a regularly constituted federal, state, or local administrative body.” The definition of Government Recall does not use the term “ordered,” which is significant because most supplement recalls announced are “voluntary,” even if FDA was intensely involved in back-room negotiations to force the company to conduct the recall.
This new policy does not expressly state “ordered” to remove any ambiguity that these “voluntary” recalls would be covered for the dietary supplement industry. This is a major improvement of the coverage versus what other carriers are currently offering.
The Adverse Publicity trigger is significant because it triggers coverage for “recall expenses” (more on those later) for either an Accidental Product Contamination or a Malicious Product Tampering. Some other insuring forms out there do not even have an Adverse Publicity trigger, or it is limited to a Malicious Product Tampering event (again, Tylenol being the classic case).
What makes this coverage superior when compared to other insurers offering contamination/recall coverage is this: There doesn’t need to have been an actual contamination—as defined in Accidental Product Contamination or Malicious Product Tampering—only publicity that there has been such a contamination. (Again, remember that your company and your products have to be identified in the media in order for the Adverse Publicity coverage to trigger.)
Other carriers may subject Adverse Publicity to a sublimit of coverage, which means the full policy limits are not available for an Adverse Publicity event; the full policy limit is available with this new insuring form.
How many times have we seen—in this ratings-driven, hyper-competitive 24/7-news-cycle world we live in today—articles begin to appear in the media about contaminated or adulterated supplement products long before the recall commenced? The importance of the Adverse Publicity coverage trigger is often misunderstood and deserves serious consideration.
Recall Expenses & Lost Profits: Who’s Covered & How Much?
There are at least two parties who will likely get slammed from the expense of a major product recall event: you and your customer(s).
But how are “recall expenses” defined? These are normally defined in product recall policies on a line-item basis (e.g., costs incurred to ship the product back, cost of disposal, etc.). However, by definition, a line-item approach will be limiting. The new policy goes further by adding to the line-item list verbiage that broadens the definition of recall expense to include “any reasonable and necessary expenses incurred by the insured in the procedure of a recall, inspection, examination, destruction, or disposal of contaminated products.”
This broad wording applies to your recall expenses. But what protection is afforded to your customer for recall expenses? The policy under discussion automatically includes coverage for customer recall expenses incurred by your direct customer in connection with recalls necessitated by your having supplied that customer with contaminated product.
Additionally, the policy can be endorsed to include “Customer Lost Gross Profit” in order to cover a direct customer’s profit losses relating to the contaminated product you supplied.
An optional but important coverage also available is called “Third Party Expense Indemnity,” sometimes referred to as “Recall Liability.” This is a significant broadening of the coverage afforded to an Insured’s customers. Why? Because it does not stop with the Insured’s direct customer; it extends to those down the distribution chain. It does not stop with recall and expenses and lost gross profit; it can apply to a host of additional expenses incurred by those in that chain.
As you can surmise, there is an element of duplication between Customer Loss of Profit and Third Party Expense Indemnity. The latter is a far more encompassing and far-reaching coverage. (Note that Third Party Expense Indemnity coverage is not a bodily injury or property damage coverage, more properly covered by a product liability policy; in fact, that exposure is specifically excluded for that reason).
What about your loss of gross profit due to a product recall event? That’s already covered in this new policy form without any sublimit!
Professional Crisis Consultant Costs Also Covered
A product recall is a hectic and distracting event that can have devastating consequences to a company’s bottom line. In response, we’ve seen an emergence of companies staffed with uniquely qualified professionals that specialize in managing these unfortunate situations and helping victim companies cope.
Fortunately, the costs of these professional firms are covered under this new policy. The firm has a 24/7 hotline to report a contamination incident, and will provide vital assistance following discovery of such contamination. The firm also provides a wide range of pre-crisis consulting services and allows for a portion of the premium to be used for these services.
In conclusion, the dietary supplement industry has an opportunity to obtain broader product contamination coverage than ever before, provided that the minimum underwriting criteria are met. Not every company will qualify for coverage as quality control issues are heavily vetted by the carrier, and some sectors of the industry—such as importers/distributors with none of their own testing/QA/QC protocols—are generally not part of their appetite. But for the right company concerned about the possibility of a product recall event, this carrier’s offering should be an attractive risk transfer tool—and maybe save your company from extinction.