If you make, grow or package a product, your company faces products recall risk. Yes, a general liability policy responds to any bodily injury or property damage your product causes, but that’s not your only exposure. Products recall insurance picks up business interruption, lost profits, recall expenses, the cost to rehabilitate brand image and provides response funds for adverse publicity, says Karl Henley, vice president at SeibertKeck Insurance Agency.
The true cost of most product recalls is almost always in excess of $1 million — and that can run into hundreds of millions of dollars for a large company.
“Most companies don’t have the resources to address the impact of a widespread product recall. They just can’t absorb the financial loss and frequently fail as a result,” Henley says. “That’s why you should at least look at this and see what your exposure is.”
Smart Business spoke with Henley about what business owners must understand about products recall insurance.
Why do business owners make mistakes with products recall insurance?
Large companies get it, but the middle market relies on the advice of their agent. Unfortunately, there aren’t many agents that specialize in products recall insurance.
There is a fundamental misunderstanding of how the coverage works, which impacts whether a client is matched to the correct policy structure and carrier. The three biggest pitfalls of a products recall policy are the need for first- or third-party coverage, coverage triggers and coverage territory.
What do employers need to know about first- and third-party coverage?
Every products recall policy has two considerations: first-party coverage and third-party coverages.
From a liability perspective, first party covers your out-of-pocket expenses — the costs of notifying customers, any storage expense, the cost to dispose of the product and any costs associated with conducting the recall. This is what most agents/carriers offer, which covers base expenses only.
Third party is often the one people don’t buy because they don’t realize they need it or don’t fully analyze their exposure. This is where you pick up a customer’s diminished value in their product because of your product, for example, when your product is an ingredient or component part. You should also consider coverage for your business interruption losses and brand reputation/rehabilitation expenses.
Recall expenses also are broken into a first- and third-party basis. Some policies only cover your expenses for a recall; some cover the expenses you pay to a third party, like your customers, to pull your product from the shelf or make repairs. Many contracts include indemnification language where you’ve agreed to reimburse these costs.
Where do business owners make mistakes with coverage triggers?
Coverage triggers are a critical area to review. Most policies are written so that if your product has caused or is reasonably considered to have caused bodily injury or property damage, your product recall policy will trigger. However, as an example, the U.S. Food and Drug Administration can issue a recall without an illness occurring. Some carriers cover this expense and others will not. It’s critical to understand how the insurance company writes their form.
In addition, two acts recently elevated the government’s ability to have stronger oversight into consumer products — the Consumer Product Safety Improvement Act of 2008 and the Food Safety Modernization Act of 2011. Both have raised the bar as far as the standard that companies have to jump through for consumer safety.
How does coverage territory come into play?
A lot of products recall policies are written with only a coverage territory of the U.S. However, many companies have global exposure. You want to make sure your coverage territory is extended to cover where your products are actually going.
What’s the biggest takeaway?
Take time to understand your coverage territory, coverage triggers and first- and third-party exposure before you buy the policy. From there, look at the financial condition of your company and assess what kind of financial risk it can self-insure to reduce the cost of the policy, which allows you to right size your coverage.
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