Supply strain

Recall insurance has once again hit the headlines. Due to its direct impact on consumers, the media has gone into full-swing each time there has been a

major product recall, racking up column inches in mainstream and trade news.

According to one lawyer, there has been a 20% year-on-year increase in the recall of consumer goods in Europe. He sees this as an indicator of the cautious approach from US and European businesses, prompted by media scare-mongering, increased notification requirements and the power of regulators under the General Product Safety Directive.

Earlier this year Mattel became the latest company to announce a mass recall (see case study 2).

This time, the coverage focused on the fact that Mattel’s supplier is based in China and so does not come under the European Commission’s jurisdiction. Instead, the first importer into Europe is held liable and Chinese manufacturers are almost untouchable.

According to the US Consumer Product Safety Commission, more than 10 million toys made in China have been recalled in August alone.

So, how can brokers protect their clients from the repercussions, and what should the Mattels out there do?

The supply chain is key. Brokers are now advising clients to scrutinise their production and distribution processes and conduct due diligence on their suppliers’ quality control.

Ian Harrison, executive director of global casualty at Lockton, says: “It is very clear that Mattel needs to study the supply chain. It has to look at who supplies it and who supplies its suppliers.

“Mattel will have to consider crisis planning and risk transfer. It will also look at whether it can get supply elsewhere and the resulting cost issues.”

Mark Quinn, associate director at Aon, also warns of the need for companies to boost their quality control to secure insurance cover.

“Companies looking to buy insurance in the future are those starting to trade on the worldwide platform. They are buying insurance cover that is demanded by the people they are supplying.

“Additionally, recent EU legislation means that companies are obligated to inform authorities in the event of a recall and, as such, they should have robust checks in place to test products before they are released to the public [see factfile].”

Harrison adds that the EU can impose import standards, but there are problems. “It has control only over imports into the EU and theoretically can stop them although this is unlikely. It is more a question for the buyer and supplier to sort out as the EU will leave it as a commercial solution.”

More brokers are realising the need for greater awareness of recall insurance.

Harrison explains: “People are generally aware of liability insurance, but there is also an insurance product to cover the financial cost of a recall.

“It is important that EU businesses conduct the necessary due diligence on the assets, insurance arrangements and
creditworthiness of the supplier, rather than select purely on price

Richard Matthews, Eversheds

“There are two types of policies that come into play. Mattel’s liability insurance covers the risk It can also protect its balance sheet exposure against the cost of managing a crisis and rehabilitation through product recall insurance.”

Richard Matthews, head of product liability at law firm Eversheds, observes that often suppliers and manufacturers have only third party product and public liability policies.

He points out that it is necessary to understand what policies are held by parties in the supply chain and which losses these cover.

“It is a question of reviewing the policies and taking advice as necessary. General product or public liability will not respond to the costs of a recall, where there is no property damage or personal injury.”

But which party should be held responsible when a breach of manufacturing standards has occurred?

If a prosecution arises from an unsafe product from China, the first importer into Europe, or the company that has its name or logo on the product, is in the firing line.

“It is the responsibility of the importing company into the EU to ensure the necessary safety requirements are met. The EU has no prima facie jurisdiction in respect of foreign businesses,” says Matthews.

In terms of recovering the cost of the recall, it is a question of the terms of contract between the Chinese exporter and the importer into Europe.

The recall of a defective product would give rise to a claim against the Chinese supplier.

“The onus is on the importer to ensure the foreign supplier has assets to meet a claim. Dependent on the terms of a contract and the assets, it may not be straightforward in practice, in terms of recovering the amount due.

“Therefore it is important that EU businesses take care over the terms negotiated with the supplier and conduct the necessary due diligence on the assets, insurance arrangements and creditworthiness of the supplier, rather than selecting purely on price.”

With these implications insurers may shy away from providing cover for such a high profile product. But Quinn believes that recalls are not uninsurable, just a higher risk.

While recall insurance has shown fast, steady growth, it is also an area that has shown resilience. “It hasn’t shown growth spurts or reacted to hard or soft markets like mainstream liability. Companies buy it because they want to indemnify themselves,” says Quinn.

“Insurers will have to look very closely at the information when a high-volume product enters a worldwide market, to determine if it is safety-critical.

“It is more about managing the interests of buyers and aligning underwriters’ desire to provide cover. There will be some areas where they will not want to provide cover at all.”

This is an area that Aon is currently looking at. It is unlikely to be the only one. Many in the insurance industry will be eyeing the great Chinese junk, looking to carve a niche in a market ripe with potential – armed with tighter supply chain controls and higher premiums.