“We need to do a product recall.” Whether you are a large OEM, or one of its Tier 1 or lower suppliers, the words “product recall”, signal an unexpected and often uncontrollable liability exposure. For the OEM this exposure is comprised of the direct cost of the recall plus the loss of company goodwill, loss of use of the product by upset end-users, and perhaps a precipitating traditional bodily injury or property damage claim. Product recalls are a significant financial risk for all OEM’s – witness the recent flurry of automaker recalls. For the supplier who provided a defective part or component, the results can be more devastating. Typically there is just not enough profit margin in the supply of a part or component to cover the risks of a recall. Unlike a standard warranty claim remedy, the supplier not only has the obligation to repair or replace the defective part or component, but will likely be saddled with the costs of removal and reinstallation plus the other direct and indirect recall costs incurred by the OEM and end-user. This exposure could be a terminal financial blow for many part and component manufacturers.
Understanding your contractual risk exposure and planning for the possibility of a recall is your best survival strategy. Solid risk management starts upfront with good contract negotiation. This should be followed by the clear documentation of design decisions and approvals. Being able to track material and piece part inventories to end products is essential in mitigating a recall exposure. Lastly, verifying the extent to which your products liability insurance coverage will respond in the event of a recall event could make the difference in your ultimate survival.
Consider the flow of the risk and the layering of your insurance coverage. In recent years OEM’s have completed the transition to a procurement system that transfers most, if not all, of the recall risk to their suppliers. Their “take it or leave it” approach has forced most suppliers to assume these recall risks as part of the cost of doing business. Unfortunately for the supplier there has been little, if any, monetary consideration given in exchange for taking on this broader exposure. So where does a supplier turn to help mitigate the exposure? Apart from the internal tools mentioned above, the use of recall insurance may offer the best risk transfer tool. This coverage attempts to fill the gaps in most commercial general liability and products liability insurance policies. It may even serve as a useful limit on your liability in a well-crafted contract with the OEM. If a recall occurs you can mitigate the overall exposure for the dollar amount between your deducible and the policy limit. While the recall coverage may not eliminate the financial risk it may make the difference between survival and dissolution.