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By Steve Yahn

Just 15 months into its existence, the federal Food Safety Modernization Act, which gave the Food and Drug Administration sweeping new powers in the food recall arena, has stirred considerable debate over pricing for product recall insurance in that market.

On the other hand, there are experts who see a leveling off of food insurance prices after an initial spike.

Several of the experts in the latter category point to the experience in Europe when similar legislation went into effect there in 2004 and 2005.

"We have an eye on what happened in Europe then," said John W. Turner, vice president, product recall manager at XL Group PLC. "What we saw there was a spike in the number of recalls like we expect here, but then after three or four years the recalls, and the prices, plateaued off."

Denise Balan, division president-crisis management at WorldSource, a division of Chartis said, "Although the recall market has been experiencing a soft market, there will be a leveling off of prices for these policies."

On the other side of the fence there's Barron S. Wall, managing associate at ICA Risk Management Consultants in Mahwah, N.J., who said, "There are eight or so companies that take an active role in selling product-recall insurance. I believe this market will become more competitive, just as the number of underwriters offering directors' and officers' (D&O) took off in the early 1990s and all of a sudden, the pricing became very competitive. So I think there will be more carriers offering food product recall policies and I think the price will go up and that the policies will have to evolve, which they will."

The demand, and cost, for food product liability is almost certainly going to increase because of the new law, said Robert D. Chesler, member of the insurance coverage group at Lowenstein Sandler in Roseland, N.J.

"I would have to think that insurance pricing for product-recall coverage is going to go up substantially because the likelihood is so much more possible that problems will arise and the damages can be huge in these cases," said Chesler. "So I think the policies may get more restrictive at the same time the prices go up."

Chesler said the new law should force every company in the food industry to think about getting recall coverage. "The costs of recall, even if there's nobody who gets sick, are tremendous," he said.

The new federal Food Safety Modernization Act expands the power of the FDA to regulate the food industry, and in particular greatly increases its power to order recalls and conduct on-site inspections.

"In all, the act created 50 new regulations in the food safety area and is the most sweeping food reform act in 70 years," said Patrick X. Fowler, partner at Phoenix-based Snell & Wilmer LLP.

The Centers for Disease Control estimates that each year approximately one in six Americans, about 48 million people, get sick from a food-borne illness, 128,000 are hospitalized and 3,000 die.

The confluence of the passage of the Food Safety Modernization Act in this country with the European E.Coli crisis should produce a wave of recall actions by the FDA, predicted Robert Chesler.

"Recalls have become a high profile issue in this country as several product recalls, including peanut butter, beef and lettuce have garnered significant media attention and helped lead to the passage of the FSMA," observed Chesler. "The recent E.coli deaths in Europe have become front-page news and will undoubtedly increase pressure on the FDA to exercise its new powers."

The peanut butter recall was one of the most infamous cases in recent years, according to recall expert Joseph F. Bermudez, attorney at Wilson Elser Moskowitz Edelman & Dicker LLP. "It was the poster board of food recalls, with just a one per cent player in the market leading to 700 people harmed in 45-plus states, nine deaths."

The cost of the recall to Peanut Corp. of America was between $1 billion and $1.5 billion, noted Bermudez. The company was forced out of business after it was found to be the source of the massive salmonella outbreak in the U.S. and overseas during 2008 and 2009.

With the coming of the FSMA, FDA-regulated food recalls surged in the last quarter of 2011. Foods regulated by the FDA were recalled 50 per cent more in the fourth quarter last year and affected more than 80 per cent more units when compared with the previous period, according to the ExpertRECALL Index.

Listeria was second only to allergens for causing recalls. Listernia-contaminated cantaloupes, grown in Colorado on a single farm, were responsible for the most deadly outbreak in a century in 2011, with 16 persons dying as a result of the outbreak.

Also in 2011, a ground turkey outbreak was the second largest such outbreak ever, with 36 million pounds of ground turkey involved, one person dying and 78 persons hospitalized.

During the final three months of 2011, the FDA logged 176 recalls by more than 150 companies, affecting nearly 70 million units of food products. It marked the highest recall levels in the past four years.

To keep pace with this expanding number of recalls, Congress recently granted the FDA $39 million for FSMA enforcement in fiscal 2012 after a lobbying group back by several food industry trade organizations played a key role in influencing Congressional negotiations.

"People I've talked to suspected the larger companies were pushing the increased recall effort to make things harder on their littler, smaller competitors," noted an expert who follows activities of the FSMA closely.

Within the new environment created by the FSMA, insurers, as Barron Wall argued, are moving into the market with new policies.

"Insureds should understand that recalls are not covered under a traditional insurance portfolio as they fall outside the scope of coverage or are excluded under general liability or property/business interruption policies," Bermudez said.

"However, the specialty policies developed by insurers provide coverage as well as the crisis management entitlements that specifically respond to accidental or production contamination events."

"You can't rely anymore on your general liability or first party property policies because they only reply to actual damage and frequently may have exclusions that apply. For example, first-party policies have contamination exclusions," Chesler said.

As the FSMA provisions take hold, the specialty policies cited by Bermudez are particularly in favor.

"A traditional portfolio of general liability and property policy isn't going to work for you," he said. "You need experts available to respond within the 48 hours required by the FDA after a recall. In fact, you need these experts to create a template in advance of any encounter with the FDA as well as dealing with the FDA."

Bermudez said that the FDA has 14 days to review a submission. "But fourteen days is a death knell," he said. "Your customers have moved on, your business is closed. So you need a team of experts to create a corrective action plan to be put in place immediately."

XL and Chartis offer help for these crisis management specialty teams, groups comprised of public relation specialists, government and legal experts and others.

XL's John Turner said the carrier has decided to fully embrace the changes brought forth in the new legislation.

"We've designed a whole endorsement that wraps around the Food Safety and Modernization Act using the language straight out of the act itself," Turner said.

The first part of the endorsement addresses the risk of a mandatory recall, which is a power the FDA didn't have prior to the act, Turner said. "This provides coverage for when the FDA actually orders a recall pursuant to a Class 1 or Class 2 recall," he said, adding that a Class 1 recall speaks of potential fatalities, while a Class 2 recall involves more short-term health consequences.

In addition to covering mandatory recalls, the endorsement covers cases in which a company has recalled voluntarily prior to an order and where in the absence of such an action there would have been order, said Turner.

"Other markets only cover recalls, so that's a significant difference," he said.

"The XL endorsement also covers companies that have to register under the act as a food processing facilities," said Turner. "The FDA has power under the act to suspend a company's registration. That means the FDA can shut down a facility for 14 days pending when various actions are taken. If the FDA is effectively saying, 'We're going to suspend your registration,' what they're really saying is 'We don't think you're capable of producing a product that's safe for the U.S. dinner table. So under the endorsement we also have Class 1 and Class 2 recalls that deal directly with suspension of registration."

In addition to the recall protection provisions, XL has created a crisis management response service that is available before and after any recall or suspension of registration.

"These crisis management specialists, made up of public relations, government and legal experts, are available to bear down very quickly, within the 48-hour response window required if there is a recall order," Turner said.

Chartis, which has offered insurance coverage and services to the food and beverage industry since 1986, has a number of qualified consultants, notably Edelman, a public-relations firm specializing in crisis management which can help with template issues before a recall or with dealing with the FDA during a recall. Edelman also is available to deal with any public-relations fallout from a recall.

Chartis also uses NSF/Cook and Thurber to assist clients in working through food-and-beverage and safety issues. NSF also works with Chartis clients to prepare recall plans, which is especially beneficial to smaller firms, said Denise Balan.

"Chartis' banner recall products are its product contamination insurance policies, CP2 and CP3, which offer essentially three components: the first is an accidental contamination product, the second is for malicious product tampering and the third covers a product extortion event."

Often a smaller manufacturer will seek recall coverage as part of its GL program, Balan noted. While product withdrawal endorsements are available in the market, they generally only address first-party expenses. Earlier this year, Chartis introduced a recall response endorsement to enhance the Lexington product liability policy that provides coverage for product recall expenses as well as third-party liability in the event of a recall.

When it comes to covered damages, Chartis categorizes expenses into two areas: first-party, or those incurred by the manufacturers themselves and third-party liability, which involve costs incurred by a manufacturer's customer.

In addition to granting the FDA broad product recall authority, it grants it power to inspect facilities as never before.

The act also gives the FDA the authority to make inspections up and down a food chain no matter where the original point of the incident occurred.

Also, with the exception of some smaller-sized firms, all companies in the U.S. are required to comply with food recall or facilities inspection orders.

In the event of a widespread outbreak of a disease, the FDA would not be limited to the breadth of its reach. Although the FSMA applies only to the FDA, the agency is coordinating certain actions with the U.S. Department of Agriculture, the U.S. Department of Homeland Security and other agencies.

"We are now dealing with regulation of a global food supply. The U.S. imports hundreds of thousands of food products," Patrick X. Fowler of Snell & Wilmer said. "And so part of the FSMA drill is to encourage foreign governments to bring their food safety standards up to par with U.S. standards."

"Part of the FSMA includes having FDA inspectors in foreign countries where they can actually inspect vegetable and fruit production, in Chile, for example, and China," added Fowler. "So if the food safety processes overseas aren't meeting our regulations then that's a huge potential risk of food-borne illnesses in the U.S."

Steve Yahn, former business editor of the New York Daily News and the former editor of Advertising Age, freelances for Risk & Insurance®.

April 13, 2012

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