Why Distributors May Be More Vulnerable to Products Liability

Although most medical device companies today are likely aware of the increasing threat of products liability lawsuits, the risk may not be as obvious to product distributors. Distributors, in actuality, may be just as vulnerable as manufacturers to products liability claims and losses.

Distributors sometimes believe they are impervious to the kinds of products liability risks borne by most in the life sciences industry. The explanation for this misperception is two-fold: (1) having not taken part in the design, labeling, or manufacture of the product, the distributor cannot foresee the imposition of liability; and (2) the distributor may reasonably assume, perhaps because of the assurances of the manufacturer, that in the event of a claim the distributor will be covered under the manufacturer’s policy.

Conversely, the financial burden imposed on distributors by products liability claims comes unexpectedly when: (1) the law imposes liability on the distributor either by virtue of its membership in the supply chain or because of its own negligence; or (2) the manufacturer’s policy fails to cover the distributor.

This article describes the circumstances under which products liability may be imposed directly on distributors as well as the circumstances under which distributors may find themselves without coverage or with access to only limited coverage.

Direct Distributor Liability

Strict Liability. Even though a distributor may have had no part in the design or production of the device that allegedly caused the harm, the law may still impose liability on distributors via the Doctrine of Strict Liability. The basis for the Doctrine is that each member of the distribution chain benefits from the sale of the product, so each member should likewise share in the liability burden when something goes wrong with the product. It is under this Doctrine that distributors and product-sellers can be brought into a products liability claim, even though they took no part in the design, development, or manufacture of the product and, thus, are not directly responsible for the product’s defect. The majority of states hold distributors strictly liable for defects in the product.

Negligence. Another set of circumstances under which liability may be imposed directly on the distributor is when the distributor, itself, is negligent. If a court finds that the product defect originates with the distributor’s own negligence, the distributor will not be able to seek indemnification from the manufacturer, even if the distributor is named as an additional insured on the manufacturer’s insurance policy. Additionally, some courts have found distributors negligent for failing to investigate the safety of the products they distribute. Thus, a distributor may be liable even though the product defect originated with the manufacturer. Under these circumstances, since liability is not the sole result of the manufacturer or supplier, it is unlikely that the distributor will obtain indemnification from those parties. 

After a patient experiences harm in relation to a medical device, plaintiffs’ attorneys generally bring as many claims as possible against as many parties as possible, in a search of the most efficacious claims and for the deepest pockets. Plaintiffs’ attorneys know that it is more difficult to add claims or bring in parties than it is to drop them if, after the lengthy discovery process, facts are not uncovered to support particular claims. Utilizing this strategy, plaintiffs’ attorneys will often bring some sort of negligence claim against a distributor (faulty installation, inadequate warnings, etc.) in combination with several products liability claims against a manufacturer. In most instances, the products liability policy obtained by the manufacturer will not cover the distributor when the distributor is solely negligent for some act or omission that becomes the subject of a lawsuit. For some insurance carriers, it is enough that the distributor is the target of one negligence claim, among the claims in a lawsuit, to reject tender of the entire case against the distributor, leaving the distributor responsible for its own defense costs.

Advice on Product Use. Distributors may also be liable for any statements they—or their sales reps—make about the product that are not exactly consistent with the warnings and indications provided by the manufacturer. Even advising customers that they should choose one product over a similar alternative can be a basis for liability.

Moreover, relating the possible uses for the drug or device as anything other than the manufacturer-specified and FDA-approved indications may constitute off-label promotion and makes the distributor liable if that off-label use is later alleged to cause harm. This is true of both oral statements, and, of course, any changes the distributor makes to the labeling of the product.

Faulty Installation. Distributors that participate in the installation of the product may also incur direct liability if that installation is alleged to contribute to any harm to a patient or user of the product or device. Imperfect installation of many medical devices can result in property damage, in addition to harm to patients or healthcare staff. For example, in many dental devices that use water, poorly connected tubes can wreak tremendous water damage. Or, as another example, the arm of a wall-mounted x-ray machine can come loose and damage objects or instruments on which it falls, in addition to injuring the individual who might be under the machine at the time.

Foreign Manufacturers. As outsourcing has become more widespread in the life sciences industry, the jurisdictional limits of the U.S. judiciary become increasingly problematic for distributors. This is because foreign manufacturers may be beyond the reach of U.S. courts. A distributor selling products in the United States is automatically subject to the jurisdiction of a U.S. court. Foreign manufacturers, however, may be outside the purview of the U.S. judiciary, or even if technically subject to jurisdiction, may be so practically difficult to bring into the lawsuit that the distributor will remain principally liable for damages caused by the manufacturer’s defective product. Under these circumstances, the distributor may be the only potentially accessible “deep pocket,” thus making it a target for the plaintiff.

Joint and Several Liability. Another legal concept that constitutes a significant source of liability for distributors is “joint and several liability.” This doctrine is the law in the majority of states and is aimed at providing full compensation for tort plaintiffs when there is more than one “wrongdoer.” In states that retain joint and several liability, each co-defendant is liable for the entire amount of the award, regardless of their proportional “fault.” This is to say that if, for example, a patient is injured and brings suit against the manufacturer and distributor, and at trial the jury decides that the manufacturer of the defective product that caused harm is 99% responsible, and the distributor is 1% liable, the distributor is still liable for 100% of the award. In theory, the distributor could then, in a separate action, seek contribution from the manufacturer. However, the distributor is frequently a larger entity than the manufacturer and the cost of the tort suit alone may have already rendered the manufacturer insolvent. In such a situation, the distributor obtains no relief from the now defunct manufacturer and must bear the burden of the total award.

Mistaken Identity. Distributors frequently distribute multiple brands of the same type of product. For example, a hospital might have a relationship with a distributor which provides the hospital with several brands of knee prostheses manufactured by multiple entities. When a products liability claim arises due to a defect in a prosthetic, the patient and/or hospital will likely first file suit against the distributor. It then becomes the responsibility of the distributor to identify the manufacturer of the defective prosthesis and bring the relevant party into the suit. In the past, identifying the origin of certain medical products has been difficult, if not impossible.

This scenario becomes all the more complicated and expensive for the distributor in states with joint and several liability. In those jurisdictions, as discussed above, the distributor will be first liable to the plaintiff for the entire amount of the award and then may have the opportunity—at its own expense—to obtain contribution from the manufacturer of the faulty device.

Similarly, a hospital or other customer might name the distributor in a suit, and when the distributor tries to tender the suit to the manufacturer identified by the distributor, the manufacturer may deny that the product in question is theirs. If the manufacturer rejects tender, the distributor cannot rely on the manufacturer’s insurance policy and an uninsured distributor must solely sustain the cost burden.

In the alternative, even if both the manufacturer and distributor are named in the lawsuit and are able to prove that the product in question is not theirs, the distributor will likely expend significant defense costs to do so. Ultimately, however, the distributor will be without any protection or indemnification from the manufacturer’s policy, as the cause of the suit does not actually arise from the manufacturer’s product.

Inadequacy of Manufacturers’ Coverage for Distributors

Sometimes distributors assume, wrongly, that they will be covered under manufacturers’ insurance policies. In fact, there are several circumstances in which, even if the manufacturer is insured and solely responsible for the products liability claim, the distributor may still not be covered.

Inadequacy of Limits. In many instances, several companies might share insurance coverage in what is known as a group policy. A group policy involves a single insurance policy with a single limit and multiple insureds. Purchasing a policy as a group eases the cost burden of insurance on individual companies. However, shared cost means shared benefit, and the coverage limits apply to the companies collectively. This means that if one company has a substantial claim that depletes the policy limit, there will be no coverage left for the other companies should they also experience a loss during the policy period. Thus, if a distributor becomes subject to a claim and the manufacturer is part of a group policy, it is possible that the group policy’s limit has already been depleted, and there will be little or no coverage available to the distributor at the time of loss.

The most frequent instance in which a distributor does in fact have insurance coverage from the manufacturer but is not covered in a particular loss arises when the manufacturer exhausts its limits with its own costs of a suit or settlement with product-users. In the case of a large liability, a manufacturer will be cognizant that the limit will be insufficient for the size of the loss. The manufacturer may be anxious to use the coverage for its own expenses rather than seeing it go towards the distributor’s costs, which they reason will likely be less than their own.

It is also very important for distributors to know with whom they are contracting. An all too common scenario occurs when a small “mom and pop” manufacturer uses large distributors. Typically, these small manufacturers cannot afford the kind of insurance coverage necessary to genuinely insulate its large distributors from losses. If there is a problem with the product, the large distributors may have to squabble with one another over a small pot of insurance money, when the legal squabble itself might cost more than what is available in indemnification funds via the manufacturer’s policy.

Additional Insured Status. Most manufacturers’ insurance policies feature a blanket endorsement that provides coverage to those parties with whom the manufacturer is contractually involved, e.g., a distributor or contract manufacturer, in the event of a loss affecting those parties. However, this blanket endorsement does not confer on distributors any right to be informed about a change or lapse in the policy, leaving them potentially vulnerable to catastrophic losses if a claim arises and the manufacturer’s policy has lapsed or been canceled for non-payment. If the distributor is significant enough in relation to the manufacturer’s business, the distributor may be able to require the manufacturer’s broker or insurance company to notify it in anticipation of a lapse or cancelation of the manufacturer’s policy.

Manufacturer is Without Coverage. Finally, the situation frequently arises where the distributor believes it is covered under the manufacturer’s policy when, in fact, the manufacturer has failed to maintain coverage, coverage has been cancelled for nonpayment, or the policy has simply lapsed. Although contractually required or mutually understood to exist, manufacturers may let their own policies lapse without disclosing the break in coverage to their distributors. This is particularly true in longstanding relationships where distributors may have been able to ascertain the initial existence of manufacturers’ coverage but have not required subsequent proof of the manufacturer’s coverage. To make sure that distributors are adequately protected, they should contractually require their suppliers to provide them with certificates of insurance on at least an annual basis. A certificate of insurance is a document issued by an insurance company that includes a statement of the coverage of the policy in general terms. It is provided for informational purposes and most frequently issued for purposes of advising third parties (parties other than the named insured) as to the amount and existence of insurance issued to the named insured. Regularly receiving these documents from suppliers and manufacturers with which they do business is the most effective way for distributors to ensure their adequate and continuing coverage.

For brokers, certificates of insurance constitute a growing cause of E&O claims. The two primary certificate-related claims are (1) failure to add, or improperly identifying, additional insureds; and (2) misrepresenting coverage on the certificate that doesn’t actually exist.

Conclusion

With the possibility that manufacturers’ policies may be insufficient to provide coverage for distributors, coupled with the multiple ways liability can be directly imposed on distributors, it is crucial for distributors to obtain their own products liability insurance coverage in order to be consistently and adequately protected against products liability losses.

1 Independent Insurance Agents & Brokers of America, Inc.: Certificates of Insurance: Issues & Answers, Big “I” Virtual University, Jan. 2007.