Insurance Law News - October 2011

• Product Recall/Withdrawal Coverage Does Not Apply Where Insured's Errors Did Not Cause Contamination or Subsequent FDA Product Advisory
• After Insured Defaults, Liability Insurer Can Intervene In Action to Contest Both Liability and Damages

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Product Recall/Withdrawal Coverage Does Not Apply Where Insured's Errors Did Not Cause Contamination or Subsequent FDA Product Advisory

A policy that covered expenses and lost profits arising from the recall or withdrawal of a food product was not triggered where the insured’s errors did not actually cause an E. coli outbreak or a subsequent government product advisory. (Fresh Express Inc. v. Beazley Syndicate 2623/623 (2011) WL 4552455)

Facts

After E. coli contamination of bagged fresh spinach caused numerous persons to become ill and one person to die, the United States Food and Drug Administration (FDA) issued a “no consumption advisory.” The E. coli outbreak and FDA advisory received widespread media attention, causing many consumers to lose confidence in the safety of bagged fresh spinach, and causing the market for this product to temporarily evaporate.

Fresh Express Incorporated (Fresh Express) harvests, processes and distributes bagged fresh spinach. Although the FDA’s advisory did not legally prevent producers from marketing bagged fresh spinach, Fresh Express voluntarily stopped marketing the product until the source of the contamination could be identified.

After the FDA issued its advisory, and after Fresh Express voluntarily stopped marketing bagged fresh spinach, Fresh Express determined that it had made some “spot” purchases from suppliers that violated corporate safety guidelines. These errors caused Fresh Express to suspect that it might have been responsible for the E. coli outbreak.

Ultimately, the FDA determined that Fresh Express was not the source of the contamination and, after identifying the actual source of the E. coli contamination, the FDA lifted the advisory. However, Fresh Express sustained substantial economic losses because of the advisory.

Fresh Express sought to recover its losses under an insurance policy issued by Beazley Syndicate 2623/623 at Lloyd’s and QBE Insurance (Europe) Limited (collectively, Beazley). The Beazley policy provided coverage for, among other things, expenses and lost profits associated with the recall/withdrawal of products caused by “Accidental Contamination.” The term “Accidental Contamination” was defined as: “Error by [Fresh Express] in the manufacture, production, processing, preparation, assembly, blending, mixing, compounding, packaging or labeling (including instructions for use) of any Insured Products or error by [Fresh Express] in the storage or distribution of any Insured Products whilst in the care or custody of [Fresh Express] which causes [Fresh Express] to have reasonable cause to believe that the use or consumption of such Insured Products has led or would lead to: bodily injury, sickness, disease or death ….”

Beazley denied coverage for the claim, and Fresh Express filed an action against Beazley for breach of contract and bad faith. After a court trial, the judge awarded Fresh Express the policy limit of $12 million, but rejected Fresh Express’s claim that Beazley had acted in bad faith. Beazley then appealed.

Holding

The Court of Appeal reversed the judgment against Beazley. The appellate court held that the E. coli outbreak itself was not an insured event. Instead, the policy insured against errors by Fresh Express that Fresh Express reasonably believed would injure third parties.

Fresh Express did present substantial evidence that it had made errors by making spot purchases that did not comply with company guidelines. However, Fresh Express did not present substantial evidence of a nexus between its errors and the E. coli outbreak or the FDA advisory. In fact, Fresh Express’s damages witnesses testified unequivocally that Fresh Express’s damages were caused by the E. coli outbreak and the FDA advisory.

In addition, Fresh Express did not discover its violations of company purchasing guidelines until after the FDA had issued its advisory and after the consumer market for spinach temporarily had disappeared. Thus, there was no causal link between Fresh Express’s violation of its own purchasing guidelines and Fresh Express’s losses. In short, there was no evidence that Fresh Express’s losses were caused by Fresh Express’s errors.

Comment

This appears to be the only reported appellate decision in California that addresses coverage for expenses and lost profits associated with the withdrawal/recall of a product. Here, the Court of Appeal undertook an exhaustive review of the evidence, and concluded that Fresh Express’s expenses and lost profits were caused by the E. coli outbreak and FDA advisory – both of which occurred before Fresh Express discovered its purchasing errors. Thus, the Court concluded that Fresh Express’s errors simply were not the cause of either the product contamination or the subsequent FDA advisory.

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After Insured Defaults, Liability Insurer Can Intervene In Action to Contest Both Liability and Damages

After a default is entered against an insured, a liability insurer can intervene in the lawsuit in order to contest both liability and damages, even though the insured itself is procedurally barred from litigating those issues. (Western Heritage Ins. Co. v. Superior Court (2011) WL 4791027)

Facts

George Parks (Parks) was an elderly man who hired Gratefull Home Care, Inc. (GHC) to provide Parks with home healthcare services. Later, one of GHC’s employees, Julia Reyes (Reyes), was driving a vehicle with Parks as a passenger when Reyes was involved in an accident in which Parks suffered fatal injuries. Parks’ heirs subsequently filed a wrongful death action against GHC and Reyes, alleging that Reyes had negligently operated the vehicle and that GHC was vicariously liable.

At the time of the accident, GHC was the named insured, and Reyes qualified as an additional insured, on a general liability policy issued by Western Heritage Insurance Company (Western Heritage). Western Heritage agreed to defend both GHC and Reyes against the wrongful death lawsuit filed by Parks’ heirs, subject to a reservation of rights.

After defense counsel entered an appearance for GHC and Reyes, Reyes apparently left the country, and thus she did not respond to discovery requests or appear for her deposition. As a result, the trial court struck Reyes’ answer and entered a default against her.

At that point, Western Heritage filed a motion to intervene in the lawsuit in order to protect its own interests. Western Heritage claimed that it had a direct and immediate interest in the outcome of the lawsuit, since in the event Parks’ heirs obtained a judgment against Reyes, Western Heritage could potentially be liable for the judgment under Insurance Code section 11580(b)(2). The trial court granted Western Heritage’s motion and allowed Western Heritage to intervene. However, later, the trial ruled that Western Heritage could not dispute whether Reyes was liable, but rather could only dispute the amount of damages allegedly suffered by Parks’ heirs. Western Heritage then sought appellate review of the trial court’s order preventing Western Heritage from contesting the issue of Reyes’ liability.

Holding

The Court of Appeal held that the trial court had erred in ruling that Western Heritage could not contest the issue of Reyes’ liability. Since Western was potentially liable under Insurance Code section 11580 for any judgment against Reyes, Western Heritage clearly had a stake in the outcome of the litigation. Further, although Western Heritage was aligned with Reyes, Reyes’ procedural default did not bar Western Heritage from raising defenses to protect Western Heritage’s own interests. Indeed, the entire purpose of intervention is to permit the insurer to pursue its own interests, which necessarily include the litigation of defenses its insured is procedurally barred from pursuing. Accordingly, Western Heritage was entitled to litigate both liability and damages issues.

Comment

In numerous prior cases, California appellate courts have held that a liability insurer may intervene in a third party action brought against the insured in order to protect the insurer’s own interests when the insured is unable to defend. However, none of those appellate courts had expressly considered whether the intervening insurer is then entitled to litigate liability and damages issues that the insured is barred from litigating. According to the Western Heritage case, the intervening insurer is in fact entitled to litigate those issues. Indeed, there would be no purpose in allowing an insurer to intervene in order to protect its own interests, but then limiting the insurer's defense to issues that the defaulting insured is limited to pursuing.

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