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By PHILLIP M. ROWELL

Can insurers provide it? Can business afford it?
Can consumers count on it?

Product liability insurance

A SMALL Chicago manufacturer of camping tents had his product liability insurance cancelled recently; the premium had been $2,700 annually. The new insurer — who was found after some difficulty — charged a premium of $27,000 for less coverage. That figure exceeded the earnings for six of the nine years that this struggling firm has been in business. The manufacturer employs about 100 persons in the inner city, and their jobs are clearly threatened by this huge new cost.

In Moline, a company which makes emergency and fire alarm signal equipment and employs 35 persons saw its product liability premium jump from $300 in 1974 to $15,000 in 1976. The company reported, "Some cities are requiring a certificate of insurance ... in order to bid on jobs. Big conglomerates have [this], but we cannot provide [it]." The company has had no claims against its product since 1928.

A manufacturer of electronic printed circuit boards with a work force of 15 and a sales volume of $181,000 does not carry product liability insurance. The reason: "If we had to purchase this type of insurance above and beyond our present insurance, such as Workmen's Comp, health, fire and theft, we would not be able to compete with foreign competition; in fact we would lock up the plant and quit."

These cases, taken from the files of the Illinois Manufacturers' Association, illustrate the growing problem of product liability insurance costs. Testimony by the association before the Illinois Insurance Laws Study Commission in February 1977 revealed that manufacturers in the state are worried about the impact of these costs on profits and prices. Dozens of industrial concerns, particularly small companies, are threatened with extinction because of soaring insurance costs or lack of adequate insurance. The problem is so serious that some firms are operating without product liability insurance because the premiums are too high or they cannot get the coverage at any price.

Product liability relates to the legal responsibility of one who makes or sells a product to compensate a user, consumer or others who suffer injury or damage as a result of the use of the product. Generally, small and medium-size businesses purchase product liability insurance as part of their general liability coverage. Large firms are self-insurers for small product claims and may buy insurance as part of an umbrella policy to provide for catastrophic loss.

The problem

How big is the product liability problem? According to a November 1977 report by the federal Interagency Task Force on Product Liability, the problem has not yet reached the crisis proportions of the medical malpractice issue a few years ago. Product liability insurance costs have risen sharply since 1974, but most manufacturers can still get insurance. However, the higher rates have hit small businesses hard, particularly makers of products in which there is a risk of personal injury. The Illinois Manufacturers' Association reports that manufacturers of machine tools and other kinds of capital equipment are having trouble, as well as makers of pharmaceuticals, hard tools and sporting goods. Even those who make simple products with no moving parts, such as hammers and ladders, have been much affected.

While giants like General Motors can devote millions of dollars to safe product manufacture and design and have the capacity to self-insure all but the most catastrophic risks, a smaller firm may not be able to spend such large sums. It must rely heavily on product liability insurance to protect its assets. Since firms with less than 20 employees make up the majority of the more than 300,000 manufacturing establishments operating in the U.S., their product liability problems can have considerable economic impact.

In addition, the federal task force found that while the average cost of product liability insurance is less than 1 per cent of sales in most of the industries studied, it was as high as 10 per cent in some. And the consumer at the end of the line may be paying more than 1 per cent because retailers and distributors must also purchase product liability insurance and pass the costs along.

Product liability costs cannot be blamed as "the sole and direct" cause of numerous business failures, the task force said. But it did find these costs to be one of several reasons why small businesses in high risk lines go under. And firms that are now doing without insurance may not be able to withstand a large product liability judgment in the

PHILLIP M. ROWELL
Legislative analyst for the Illinois House Democratic staff, he has done extensive research on product liability.

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future.

One of the causes of this budding crisis is a sharp increase in the number of product liability claims filed. Not too long ago, product liability coverage was a profitable, though small line of business for insurance companies. The courts, by and large, acted within the constraints of readily definable causes of action such as negligence and breach of warranty. However, in the 1960's new attitudes and values began to emerge which gave rise to a wave of demands for greater consumer protection. These demands, championed by a number of consumer activists, gained wide support in the news media, the courts, the legislatures and enforcement agencies. The attention given to consumer protection heightened the public's awareness of the possibility of recovering for damages. The result was a new breed of claim-conscious consumers.

Consumerism

The impact of consumerism is evidenced in today's federal consumer protection legislation. In 1967, the National Commission on Product Safety was established and resulted in the Consumer Product Safety Act of 1972 which covers products for use in households, schools, recreation or for personal use or consumption. Also in 1972, the Occupational Safety and Health Act was enacted. It is concerned with safety of premises, tools and equipment for the protection of employees.

Another cause of burgeoning product liability suits is the nation's rapidly expanding economy. New products enter the stream of commerce each year, many of them complex and technologically sophisticated. Consumers have high expectations for the performance of these products as well as those already in use.

And, it cannot be denied that there is a safety problem. Many injuries at home and at work are related to faulty products. National Safety Council statistics show that in 1975 there were 21.4 million product-related injuries in the home including 110,000 permanent disabilities and 25,000 deaths. The estimated loss to the U.S. economy was $6 billion. In America's work places, the council estimates that there were 8.7 million product-related injuries in 1975 with 2,200 disabling injuries and 12,600 deaths for a total economic loss, both at home and at work, of $16 billion.

The new wave of consumer awareness and legislation has helped to focus the attention of manufacturers on the need for increased safety in design, improvements in quality control and inspection, and proper instructions and warnings to potential users. The insurance industry has stressed that manufacturers must do everything they can to produce the safest possible products. However, because of interpretations of the law, the insurance industry feels that efforts to improve product safety could even backfire against a manufacturer. For instance, modifications to improve the safety of a product have been used as evidence in court that the product was not originally as safe as it could have been. The result is a growing conflict between the insurance industry and the judicial system.

In Illinois, the law of product liability has been expanding at a rapid rate since 1965 when the Illinois Supreme Court handed down the landmark decision Suvada v. White Motor Co. The Suvada decision was the culmination of a trend toward a broader definition of tort liability for faulty products. "Tort" is a wrongful act, not involving a crime or a breach of contract, for which one can be held responsible for civil damages. (For details on the Suvada decision, see box, p. .)

The causes of the product liability problem are unsafe products, uncertainties with personal injury litigation and industry ratemaking practices

Since Suvada, producers of consumer products have found themselves in court as defendants to claims based on legal theories unknown to them. And, consumers who are injured by defective products are finding that they no longer have to bear the burden of rising medical expenses and loss of income. Not surprisingly, they are filing more lawsuits against the producers of defective products.

With the litigation system wide open, it isn't just the producers who are getting sued. Illinois wholesalers and distributors have also been involved in an increasing number of product liability claims and have found their insurance premiums going up or — in extreme cases — disappearing altogether with the termination of coverage. Although these firms have nothing to do with the design, manufacture or maintenance of the products they sell, they have been held liable for injuries to workers using those products. Even if the suits are dismissed, there is still the expense of preparing a legal case.

Illinois task force

The Illinois Product Liability Task Force was created in early 1977 by 24 wholesaler-distributors to examine the problem. The task force now has about 1,200 firms as active members, virtually all of them employing fewer than 100 persons. Surveying its own members in August 1977, the task force found that 83 per cent of the approximately 210 firms responding are covered by product liability insurance. Of these, 95 per cent report their premium costs are rising. For 46 per cent of the firms faced with higher premiums, the rates were five times higher or more. Fifty-three per cent of the respondents said they had difficulty in getting or keeping product liability insurance, and 61 per cent had had a product liability claim filed against them. Of these firms, 44 percent reported claims for on-the-job injuries, 40 per cent for consumer/user injuries; 16 per cent had had both types of claim filed against them.

The results of the survey were presented before the House Judiciary I Committee in October 1977, and in March 1978 the task force sent out a second survey to get information for the committee on the average age of products involved in an injury, the normal lifespan of various products and details of injuries and product liability suits.

Along with unsafe products and uncertainties as to how personal injury litigation is conducted, the federal task force also cited ratemaking practices by the insurance industry as a principal cause of the product liability problem. At present, it is very difficult to obtain uniform product liability insurance data. There is great diversity in the types of product liability coverage and the rates charged. In addition, businesses

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often "layer" their product liability coverage or combine it with other types of coverage so that it is very difficult to get a breakdown on costs.

Are product liability insurance rates reasonable? In testimony before the U.S. House subcommittee on Capital Investment and Business Opportunities, Lester L. Rawls, chairman of the National Association of Insurance Commissioners (NAIC), cited the association's figures for the two lines of insurance which encompass product liability. During the years 1973-75, the average operating profit for "commercial multiple peril" was 4.7 per cent; the average for "general liability" was 1.4 per cent. Neither of these figures, according to Rawls, is excessive.

As possible solutions to the product liability problem, the federal interagency task force recommended the following measures:

1. A more systematic way of collecting product liability data by the insurance companies so that rates can be more closely related to risk, and insurer profit and loss can be more clearly defined.

2. Better use by some firms of "product liability loss prevention techniques" (maintaining safety standards throughout the production and delivery process). In addition, the federal government might help businesses coordinate product risk information, and insurance companies might allow premium discounts for businesses which use effective product safety techniques.

3. A more predictable tort litigation system for product liability, governed by uniform rules.

No-fault proposal

In addition, the task force analyzed the possible use of a no-fault system for product liability. Unlike mandatory no-fault, elective no-fault insurance can be instituted for injuries arising from product liability and professional malpractice without enabling legislation. All that is needed is a contract between the consumer and the manufacturer, seller or supplier of the product.

In 1976 Professor Jeffery O'Connell of the University of Illinois College of Law proposed a comprehensive plan of elective no-fault insurance. Under his plan manufacturers would be permitted to offer payment for (1) losses caused by their products regardless of fault or defect, and (2) only for out-of-pocket losses (essentially medical expenses and loss of wages) which can readily be calculated — and not for pain and suffering which are more difficult to measure. For example, a power tool manufacturer might elect no-fault liability for out-of-pocket losses up to $100,000 whenever his power tool causes amputation. If a guarantee of no-fault payment exists at the time of the accident, no tort claim of less than pocket loss or for pain and suffering less than $100,000.

O'Connell estimates that only 37.5 per cent of each product liability premium dollar is actually paid to injured victims. He says no-fault insurance would compensate more adequately for their out-of-pocket losses, would minimize the number of tort suits and would eliminate payment for pain and suffering.

Critics of O'Connell's proposal wonder if the incrased number of claims

The courts and product liability IN SUVADA v. White Motor Co. (32 Ill. 2d 612 (1965)), the Illinois Supreme Court held in 1965 that Bendix-Westing-house Automotive Air Brake Co. was liable for injuries resulting from a defective brake system it manufactured. The system was installed by White Motor Co. in a reconditioned tractor unit which was purchased from White by Steven Suvada and his business partner. The vehicle collided with a public transportation bus. Suvada filed action against both White and Bendix to recover damages to his tractor-trailer as well as the costs he paid in damages to the bus and settlement of personal injury claims by the bus passengers. Bendix maintained there was no contract or implied warranty with Suvada but only with White, the direct purchaser of the brake system. Therefore, Bendix argued, any warranty as to its product ran to White alone; Suvada could not recover damages for a breach in warranty or hold Bendix in strict liability for damages caused by its product. Bendix also argued that its liability to Suvada must be based on negligence and could not be used by Suvada to recover the costs he had paid for damage to the bus and injury to the passengers because there was not sufficient evidence of negligence on the part of Bendix. In an opinion delivered by Justice House, the Supreme Court held that even though Bendix did not actually sell the brake system to Suvada, the company must indemnify him for the claims resulting from the accident because the condition of the brake system made it unreasonably dangerous. This was sufficient cause, the court said, to hold Bendix in strict tort liability for injuries caused by its defective product. Pointing out that the courts had been increasingly basing their product liability decisions on a concept of public safety and unreasonable danger to the user, the court refused to limit Bendix's strict liability to a situation where a contract or a warranty existed or was implied. "Lack of privity of contract is no defense in tort action against a manufacturer of a defective product," the court said. On the same grounds the court struck down Bendix' contention that its liability should be based on negligence. To the argument that the abolishment of privity and negligence should come from the legislature. Justice House paraphrased the court's reply in the case of Motlitor v. Kaneland Community Unit Dist.: "The doctrine of school district immunity [privity and negligence] was created by this court alone. Having found that doctrine to be unsound and unjust under present conditions, we consider that we have not only the power, but the duty to abolish that immunity . . . 'We closed our court room doors without legislative help, and we can likewise open them."' The court further held that since White Motor Co. did not make any changes in the brake system manufactured by Bendix but merely installed it, there was no reason why Bendix should not come within the rule of strict liability. The court also affirmed that tort liability for a defective product extends not only to manufacturers and sellers but also to contractors, suppliers and other intermediate parties. "Lack of privity of contract not being a defense in a tort action against the manufacturer, it is not a defense in an action against any of these parties," Justice House stated.

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would offset any money saved by elimination of payment for pain and suffering. They also question whether the consumer rather than the manufacturer should be allowed to elect no-fault and whether the system could be administered more cheaply than the current tort system.

Like the federal task force, the NAIC recommended changes in tort law, safety engineering and rate-setting techniques as solutions to the product liability problem. The NAIC also recommended the transfer of funds between insurance companies by way of contribution or subrogation to maintain a pool of available funds. (In "subrogation" one insurance company transfers its claims and rights to another.) To get more information, the NAIC has urged completion by the Insurance Services Office of a "closed claims" survey for product liability insurance. ("Closed claims" are those on which decisions have been made and operations have been completed.) On a state level, the association would like to see development of a uniform product questionnaire to identify losses and rate setting techniques on a state-by-state basis. Finally, the NAIC has suggested the establishment of local industry placement committees under the direction of state insurance commissioners to help small businesses which are having difficulty in getting product liability insurance.

Voluntary program

Illinois now has this type of voluntary program. In May 1977, the Illinois Products Liability Market Assistance Program (MAP) was established under the supervision of Department of Insurance Director Richard L. Mathias. Virtually all the product liability carriers who do business in Illinois and the major insurance agencies and agents' associations are sponsors of the program. Firms do not go directly to MAP for assistance but submit an application, along with a nonrefundable fee of $150, to MAP through an Illinois-licensed agent or broker of their own choice.

Product liability has been getting considerable attention in both the federal and state legislatures. In fact, one of the major questions in the product liability problem is whether it can best be solved at the federal or at the state level. According to a report by the National Conference of State Legislatures (NCSL), an argument in favor of federal action is the fact that most products are marketed across state lines. Insurance rates are also set nationally and reflect the highest level of a liability to which a product could be subjected. Reforms in one state would not lower a manufacturer's liability on products sold in another state — and might not lower his insurance rates either.

Proponents of federal regulation feel that it would take less time and effort to pass one federal law than to pass uniform state laws. They also say that product safety regulations, which are already set at the federal level, would be better enforced under federal product liability legislation.

However, the NCSL report also points out that tort law ( which is a key factor in the product liability problem) and insurance regulation have traditionally been the province of the states. Federal legislation could run into problems of constitutionality. It would also eliminate opportunities for creative and responsive lawmaking by state legislatures. And at the moment, the NCSL does not believe Congress is about to act on any massive product liability insurance program. A spokesman from the National Products Liability Council (NPLC), a group of large and small corporations concerned with product liability, says that both federal and state legislation need to be enacted.

Bills introduced during the 95th Congress include: reinsurance programs (offering insurance companies or insurance pools reinsurance against losses from product liability claims), tax relief deductions (enabling a business to receive a deduction on funds reserved to pay losses on product liability claims), worker's compensation measures, product testing and certification, and federal chartering of captive insurance companies. (A "captive" insurance company is one formed by a large manufacturing firm which exists only to provide insurance for the firm's products.) The tax deduction and chartering of captive insurance companies stand the best chance of passage according to the National Conference of State Legislatures.

Action on the state level has focused on tort reform aimed at limiting the current wide open liability situation. In 1977, 42 states considered product liability reform. Colorado, Oregon and Utah passed comprehensive legislation including: (1) statutes of limitations on the manufacturer's liability (in the absence of an express warranty), (2) restoration of some of the manufacturer's defenses when his product is altered or misused and (3) more specific definitions of the term "safe" or "free from defect," based on compliance with government standards or the state of the technology at the time the product was manufactured. The Colorado law also requires the state insurance commissioner to report annually to the legislature on changes in product liability insurance rates.

Legislative proposals

In Illinois, the state Chamber of Commerce (ISCC) worked with the National Product Liability Council (NPLC), and the Illinois Manufacturers' Association (IMA) teamed up with the Alliance of American Insurers (AAI) to recommend legislative proposals. Basic to both legislative packages is a statute of limitations on a manufacturer's liability. In addition, the ISCC proposed a limitation on the seller's liability for the formula or design of a product based on the limitations of the technology at the time of manufacture.

The IMA recommended: (1) restoration of the manufacturer's defenses when the product is altered or misused, and (2) a change in the worker's compensation law which would extend the employer's immunity from employee lawsuits to other suppliers of capital equipment used in the production of goods for sale. This change would, in effect, make worker's comp the exclusive remedy for most workplace injuries and eliminate the need for subrogation. (For action on bills, see box, p. .)

What would be the effect of these proposed changes? Responding to a survey conducted by the Illinois Task Force on Product Liability, the AAI said that the changes would "cut insurance losses" (paid claims) which are the "raw material" from which rates are made. Equally important to insurance companies, the reforms would make losses more predictable. At present, the alliance says insurers are worried about "the explosive potential of future liabilities," and this apprehension causes problems in price and availability of product liability insurance.

The alliance emphasized that it could

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not deal directly with the effect of the proposed reforms on insurance rates. Rate manuals on many products are prepared by the Insurance Services Office (ISO), a service organization developed by the insurance industry to provide the industry with information on ratemaking and other matters. The ISO also distributes recommended ranges of rates on products where the risk factor varies considerably, leaving it up to individual underwriters to set rates for a given policyholder or product. In Illinois, companies have to file their own rates individually with the Department of Insurance for all lines of business except Worker's Compensation. However, the AAI believes that enactment of the reforms would reduce insurance losses for businesses whose products are consumed exclusively in Illinois and would stabilize losses for those with 50 per cent of their product used in Illinois.

Illinois is third among the states in product liability claims, according to an estimate by the American Insurance Association. New York and California rank first and second; other states with a high number of claims in order of rank are Indiana, Michigan, Minnesota, Ohio, Pennsylvania, Texas and Wisconsin. And any legislation passed in Illinois or other high claims states would affect the picture nationwide.

Rate information

In order to act effectively on product liability, the General Assembly must be able to define the problem with some precision. Without information concerning the manner in which insurance rates are set in Illinois, legislators could provide a cure for which there is no disease. That is, if there is no crisis in the state, then remedial legislation intended to benefit insurers would result in a windfall for the insurance industry. Specifically, legislators need to know how product liability rates are set and exactly how many product liability suits are filed and prosecuted in Illinois. More research is also needed to determine the status of the small, single-product manufacturer. The state has a compelling interest in saving the livelihood of these firms and perhaps even encouraging other small businesses to settle here.

Legislators seeking to restore some order to the product liability situation have their work cut out for them. They must come up with a product liability package that is fair to insurers, businesses, working people and consumers. If Illinois passes sound legislation, it could pave the way for other states.

It will be interesting to see how the General Assembly responds to this issue, one in a long line of insurance crises: medical malpractice insurance, worker's compensation insurance, unemployment insurance. And, when the product liability problem is solved, what will be the next insurance crisis?

By JERRY MENNENGA Product liability in the legislature ILLINOIS manufacturers have a good chance of getting relief this year from product liability claims since the Illinois House and Senate passed identical compromise bills in May. S.B. 1847 (Richard M. Daley, D., Chicago) and H.B. 1333 (Lee A. Daniels, R., Elmhurst) were amended on their respective floors and then passed May 26 with a 52-0 vote in the Senate and 161-3 vote in the House. Identical in language, the bills would set limits on the number of years a manufacturer, wholesaler and distributor would be liable for "strict liability" tort action for products with an unreasonably dangerous defect causing an injury. The bills set "statutes of repose" giving manufacturers a 12-year limit from the date of the first sale of a product and a 10-year limit from the date of the first sale to an initial consumer. The two-year difference allows product shelf life for wholesalers and distributors. An 18-year limit was given to pharmaceutical drugs since more time is needed to determine if any ill effects have occurred. The bills would also allow the Department of Insurance to collect data from insurance companies on premium dollars collected, claims paid and type of products involved in tort action. This data would be used to determine if current premiums charged for product liability insurance are too high. Practically all product liability coverage and premium costs are based on the fear of tort action and rumors rather than actual information. The House and Senate passed the bills to try to decrease the high rates charged in Illinois. But insurance policies are written on a nationwide basis, and many manufacturers' products cross state lines. Another problem the bills deal with is third-party complaints. Third-party complaints involve a manufacturer, another business firm using the manufacturer's product and an employee injured by that product. Instead of the manufacturer having to pay the entire claim under a strict liability, the claim would be apportioned between the manufacturer and the business if the court accepts the manufacturer's third-party complaint. The legislature is following the Illinois Supreme Court's decision in Skinner v. Reed-Prentice (December 1977), which is as vital for manufacturers as the Suvada case is for consumers. It took a year of negotiations to shape the compromise bills into an acceptable vehicle for relief for manufacturers from product liability claims and insurance coverage. The Illinois Manufacturers Association, the Illinois State Chamber of Commerce and the Illinois Trial Lawyers Association are happy with the compromise. The insurance industry is not, however. The Alliance of American Insurers (AAI) doesn't like the provision for insurance data collection because the statistical information being asked for is buried in large comprehensive insurance policies which most manufacturing companies are now insured under. The AAI said the right road for a solution to the problem of strict product liability coverage would be for manufacturers to make safe products which won't injure anyone. There are other issues of product liability which the compromise bills do not address. One involves the situation when an employee not only receives worker's compensation for an injury on the job, but also an award for a product liability suit for the same injury. Another issue is a proposal to establish a defense for manufacturers in strict product liability tort cases based on technology available at the time a product was manufactured. Protecting wholesalers and distributors who have no connection with the manufacturing of products from lawsuits is yet another issue in strict tort product liability.

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