Product Recall Insurance protects your business from the financial costs of performing a voluntary or involuntary product recall.
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When your product poses a threat to the safety of a consumer or is simply prone to error, you will be encouraged to perform a product recall. As government and regulatory body guidelines for product safety become more and more stringent, product recalls have become an everyday occurrence. If your business is faced with recalling a product, the damage to both your reputation and bottom line can be profound. If you’re a smaller business, the hidden costs and fees of such an action can be enough to push you into bankruptcy. This is where Product Recall Insurance comes in.
What is Product Recall Insurance?
Product Recall Insurance protects your business from the financial costs of performing a voluntary or involuntary product recall. If your company produces a product that is found to cause bodily injury or property damage to consumers, you may be forced to perform a recall by the relevant regulatory body, or you may decide to issue a voluntary recall.
Recalling a product is not always as simple as cutting a few checks to disgruntled customers. In addition to offering a refund, you may also have to:
- Pay to ship, store, and dispose of the faulty merchandise
- Publicize the recall through advertisements on TV or in print
- Devise a new PR campaign to restore your brand’s image
Product Recall Insurance can cover these costs and more, protecting you from the unexpected financial burden of a product recall. This type of insurance is especially necessary for businesses that work with food, electronics, children’s toys, or any type of merchandise that could cause bodily harm or property damage.
- A toy company sells a doll that is found to have a dangerous wire poking out of its arm socket. The U.S. Consumer Protection Safety Commission (CPSC) orders the company to recall the product. Thousands of dolls are spread throughout the United States, and the aforementioned company is forced to pay for their shipping and storage.
Product Recall Insurance, like product liability insurance, is only triggered if the defective product can cause consumers bodily harm or property damage. Products that simply don’t work, but don’t have the potential to cause injury or damage, are not eligible for reimbursement. Both voluntary and involuntary recalls are covered through Product Recall Insurance.
Product Recall Insurance vs Product Liability Insurance
If you have general liability or product liability insurance, you might believe that you are already covered in the event of a product recall. However, this is not the case. Liability insurance only pays out the costs associated with a customer’s lawsuit against you. It does not cover any of the costs of recalling your product, i.e., removing your product from the market and rehabilitating your company’s reputation. Product Recall Insurance also differs from liability insurance in that it can be activated before anyone is harmed. You do not need to be sued in order to use your Product Recall Insurance.
- A company sells canned soup and has been getting complaints about food poisoning from their “chicken noodle” variety. Four people come forward to sue the company for pain and suffering, and they win. The company is protected from the costs of the lawsuit through their product liability insurance. However, the faulty chicken noodle soup continues to circulate on shelves throughout the Midwest. The business is forced to pay a large sum out of pocket to recall the soup and prevent new infections.
What is covered by Product Recall Insurance?
Coverage for Product Recall Insurance can be broken down into first-or third-party. First-party coverage addresses the needs of companies that sell directly to consumers. This includes the costs of advertising and notifications to alert the public about the recall. Third-party coverage is meant for businesses whose products are used as components by other businesses. In the event that something goes wrong with your merchandise, you might be held legally responsible for covering the costs of another company.
While coverage options may vary from insurer to insurer, Product Recall Insurance generally covers the costs of:
- Customer notifications
This could include sending letters or making announcements on TV.
- Shipping and storing defective products
This includes the costs of storage in a warehouse.
- Disposing of defective products
Some products may require unusual disposal methods like incineration.
- Replacement, repair, or reimbursement
As part of your product recall, you will likely need to compensate customers who purchased the defective products, either through replacement or repair of the product or monetary reimbursement.
- Hiring extra workers or paying overtime to existing workers
You might need additional staff or extra hours from existing staff to monitor the warehouses, issue statements, and more.
- PR campaigns to restore your reputation
A recall can have a negative impact even after the product is pulled. You might use advertising to restore the public’s trust in your brand.Example: An Italian food company sells specialty tomato sauce in jars, cans, and squeezable packets. In June, one of their canned tomato sauces is recalled due to a suspected mold contamination. The issue is resolved, and new cans of sauce are put back on the market. Unfortunately, due to negative publicity from the recall, customers have lost faith in the brand, and sales for their sauce continue to be much lower than expected. The company is only able to turn things around by airing a series of ad campaigns explaining that they use only the freshest ingredients.
- Inspections from regulatory or government bodies
If your recall is involuntary and mandated by a regulatory body or the government, you will likely be subject to a number of costly investigations to ensure compliance.
- Lost profits within a set date range
You will not earn revenue on the faulty product, and your resources will be pulled from other sources of income in order to deal with the crisis. Sales of your other products may be impacted by the recall as well.Example: A toy company sells toys for children under the age of 6. Their plastic spinner tops are recalled as choking hazards. Parents hear about the recall on the local news and decide to purchase their toys from another, less controversial company. Sales figures for the toy company’s dolls, trains, and water guns all decline unexpectedly for the next 6 months. The financial impact of these events is much greater than the cost of pulling the spinner tops from the shelves. It takes the company 3 more months to regain their position as a market leader.
- Third-party expenses
Other companies or vendors who use your defective product may experience lost income and a variety of expenses to recover from your recall.
If you sell a product that is used as an ingredient or component, it is recommended that you purchase Product Recall Insurance with coverage for third-party expenses. Conversely, if you used a faulty ingredient or component when creating your product, you may be able to cover the costs of a recall if you can prove that the other business was the source of the error. When you evaluate your suppliers, make sure that they have third-party Product Recall Insurance, or they may not be able to bear the burden of these costs, and you will not be compensated.
- A factory manufactures rhinestones that are meant to be used by other businesses to make clothing. A T-shirt company purchases their rhinestones and uses them to create a special collection of rhinestone encrusted T-shirts. There are reports that the metal from the rhinestones digs into customers’ skin, creating scratches that can become infected. The T-shirt company must recall the faulty shirts. After the bad press, they develop a reputation for being “cheap” and “unsafe.” Facing bankruptcy, the T-shirt company proves that the source of the problem is the rhinestone manufacturer. They sue the rhinestone business to cover the costs of the recall.
What are the key exclusions of Product Recall Insurance?
If you sell a product that is especially dangerous to consumers in the event of an error, you may not be eligible to buy Product Recall Insurance. The list of barred products varies by insurance carrier and policy, but can often include:
- Pet food
- Dietary supplements
- Tobacco and e-cigarettes
- Infant carriers
- Drop side cribs
Do I need Product Recall Insurance?
If you run a business where an error in your product is likely to cause harm to a consumer, then it may be wise to purchase Product Recall Insurance. If you think that as a smaller company you are less exposed to product recall risk, keep in mind that one-third of product recalls are reported by businesses with five or fewer employees. Types of companies that benefit the most from Product Recall Insurance include:
- Children’s toy manufacturers
These items might be placed in children’s mouths, meaning that problems like a high concentration of lead paint can result in illness.
- Drug companies
Faulty pharmaceuticals can easily cause fatalities.
- Food manufacturers
Improperly managed foods can become contaminated with bacteria.
- Auto parts manufacturers
The automobile industry is notorious for its history of expensive recalls.
- Electronics manufacturers
Malfunctioning electronics can cause fires and physical harm.
Product recalls more common than ever
Product recalls are on the rise, with the introduction of stronger laws from regulatory bodies like the FDA, USDA, and Consumer Products Safety Commission (CPSC). Some of the reasons for these new laws include:
- Technological advancements
It’s now easier to detect manufacturing errors.
- Global nature of trade
Component parts from foreign countries are not made with the same quality or regulations as their American counterparts.
- Faster communication
Innovations like the internet and cell phones make it more convenient for individuals to monitor and report errors.
With stronger laws in place on consumer goods, product recalls are becoming an everyday occurrence. Companies with even the highest safety protocols can make the occasional error, and the financial implications of recalling a slip-up are exceptionally high. Product Recall Insurance is a safe way to hedge your bets in a world where mistakes can and do happen.