Property Damage / OH.

Use of Incorrect Ingredient in Baby Formula Not “Physical Injury to Tangible Property.”

The Court of Common Pleas of Delaware County Ohio, applying Ohio law, granted summary judgment in favor of an insurer holding that the insurer has no duty to defend or indemnify policyholder in an underlying breach of contract action because the tainted product did not qualify as covered property damage as defined by the policy.

Nature’s One, an Ohio-based company that develops, manufacturers, and sells products including baby formula, ordered egg-free nonfat dry milk (“NFDM”) from Spring Hill Jersey Cheese Inc. (“Spring Hill”) for use in its lines of formula for babies with egg allergies.  However, Spring Hill inadvertently delivered to Nature’s One NFDM that was not egg-free.  The mistake was not discovered until after the NFDM was mixed with other formula ingredients.  Because the ingredients were impossible to separate, Nature’s One was unable to sell the formula.

Nature’s One brought a breach of contract action against Spring Hill in the United States District Court for the Southern District of Ohio. Spring Hill sought coverage from its commercial general liability insurer, Scottsdale Insurance Company (“Scottsdale”).  Scottsdale, which initially provided a defense to Spring Hill, filed a declaratory judgment action seeking an order that it had no duty to defend and indemnify Spring Hill because Nature’s One did not suffer “property damage” as defined by the policy.  Scottsdale moved for summary judgment.

Relying on the Wisconsin Supreme Court decision, Wisconsin Pharmacal Co. LLC v. Nebraska Cultures of California Inc. et al., the court found that the mere inclusion of a defective ingredient in a product typically does not constitute property damage under the terms of a liability policy.  Once the NFDM was subsequently mixed with the other formula ingredients, it became an “integrated system,” and coverage is only afforded when that integrated system causes physical injury to another tangible product.  Because the “integrated system” did not cause property or bodily injury, there was no coverage. 

The court acknowledged an exception to the general rule in situations when the defective ingredient or component is hazardous.  However, the court held that the exception did not apply in this case because eggs are not generally considered hazardous:  “[T]he nonconforming NFDM were undoubtedly unsafe for consumption by children with egg allergies. But as a general proposition, egg is perfectly safe.” Lastly, the court rejected the argument that Nature’s One suffered “loss of use” of the formula.  Nature’s One did not lose the use of the formula within the policy terms, but instead, it lost value because of its inability to market the formula as egg-free.  The lost value does not constitute property damage under the policy.  Scottsdale Ins. Co. v. Spring Hill Jersey Cheese Inc., No. 17CV H 03 0209 (Ct. Com. Pl. Ohio Jan. 23, 2019).