On April 20, 2012, the Virginia Supreme Court determined that a group of property insurers did not owe coverage to PBM Nutritionals, LLC (“PBM”) in connection with its multimillion dollar claim for losses related to contaminated infant formula.
PBM is a leading manufacturer of infant formula. When PBM shut down its machinery for a scheduled cleaning, a valve leaked, which allowed steam to enter a heat exchanger. The steam then superheated water which in turn melted a filter assembly, releasing disintegrated filter components into the water. When PBM restarted its manufacturing process after the cleaning, it did not realize that it was mixing the contaminated water with other infant formula ingredients. After FDA-mandated tests revealed the presence of the filter components, PBM quarantined and disposed of the contaminated batches of baby formula prior to distribution.
THE FOOD FIGHT
PBM submitted a claim under its “product contamination insurance” policy and its commercial property policies for the resulting losses. PBM’s three property insurers denied its claim and litigation ensued. After the circuit court found that the property insurers properly denied coverage, PBM appealed the decision to the Virginia Supreme Court.
On appeal, PBM advanced three arguments as to why the circuit court erred in concluding that it was not entitled to coverage under its broker’s manuscript policy form. According to PBM:
- The exception to the pollution exclusion in the manuscript form for pollution resulting from a covered peril conflicted with the pollution exclusions added to the policy through endorsements, creating an ambiguity that must be construed in favor of coverage;
- The pollution and contamination exclusion endorsements were ambiguous because they were overly broad and could exclude virtually any loss, and that ambiguity could only be resolved by confining the scope of the pollution exclusion endorsements to “traditional environmental pollution;” and
- The circuit court never expressly found that the formula was contaminated, nor did the insurers present sufficient evidence to prove that the formula was actually contaminated.
In affirming the circuit court’s decision, the Virginia Supreme Court explained that PBM did not establish that the manuscript form’s exclusion “conflicted” with the pollution exclusion endorsements. As the court noted, an exception to an exclusion does not create coverage where none exists. Accordingly, an exception that renders one exclusion inapplicable does not create a conflict with another exclusion that does bar coverage. The court, therefore, concluded that the manuscript form’s exclusion had no application to the pollution exclusion endorsements.
The court similarly rejected PBM’s argument that the pollution exclusion endorsements were overly broad and ambiguous. As the court explained,
when determining the meaning and application of a pollution exclusion in a liability policy, ‘the law of this Commonwealth and the plain language of the insurance policy provide the answer.’
Looking to the plain language of the policy, the court found that none of the pollution exclusion endorsements included any terms such as “environment,” “environmental,” “industrial,” or any other limiting language suggesting that the scope of the exclusions was confined to “traditional” rather than “indoor” pollution. Moreover, the court noted that the endorsements did not suggest that the discharge or dispersal of pollutants or contaminants must be into the environment or atmosphere. Finally, the court concluded that if the pollution exclusion endorsements were intended to be limited to traditional environmental pollution scenarios, the included exceptions to the pollution exclusion endorsements would not be necessary. Thus, the pollution exclusion endorsements were unambiguous.
Finally, the court rejected PBM’s argument regarding insufficient evidence of contamination. The court determined that evidence introduced at trial of elevated levels of melamine in the baby formula, combined with testimony that the formula was unfit for human consumption, was unmarketable and had no salvage value, supported the circuit court’s finding of contamination.
The scope of the pollution exclusion remains an ongoing source of tension between insurers and their insureds. PBM Nutritionals offers well-reasoned authority for the application of the pollution exclusion to losses incurred by food manufacturers during the production process caused by the release of contaminants. Though Virginia law is now clear on the issue, interpretation of the pollution exclusion is a jurisdiction specific analysis and will continue to be a hotly-contested issue in courts across the country.