Status of the Economic Loss Doctrine with Respect to Product Liability

WDC Journal Edition: Summer/Fall 2007
By: Mark Henkel

The supreme court did a wide ranging review of the economic loss doctrine as it applies to product liability in Grams v. Milk Products, Inc. [1]. In Grams, the plaintiffs had purchased milk replacer for feeding of newborn calves. They claimed that the calves did not thrive and some of them died. A complaint was brought both in tort and contract. Grams sued Milk Products, Inc., the manufacturer, and Cargill, Inc., which was the retailer. There was no privity between Grams and Milk Products, Inc. The economic loss doctrine was raised as a defense and this ultimately resulted in the supreme court arguments. Plaintiffs argued that the dead calves constituted damage to other property, preventing application of the economic loss doctrine and further argued for what they called a “bright line test”, that because there was damage to property other than the milk replacer, tort law should apply. This resulted in a question from Justice Abrahamson to Grams’ counsel, “How many of our cases are you asking us to overrule?”

The defense argued that the integrated system test of Wausau Tile [2], should apply because the use of the milk replacer had no purpose but for the raising of calves, and Bay Breeze Condominium Association v. Norco Windows, Inc., [3] was relevant. There, windows had leaked causing damage to surrounding walls. The wall with its window was held to be an integrated system and the economic loss doctrine applied. Likewise, in Wausau Tile, the complained of cement had been incorporated into a mixture which became the malfunctioning concrete block and was applied. The integrated system test holds that when the complained of product is part of an integrated system or process, damage to other parts of the system will not prevent application of the economic loss doctrine.

A second inquiry in economic loss doctrine cases involves a discussion of how the damage occurred. Traditionally, malfunctions which implicate safety concerns such as explosions, fires and poisons are differentiated from situations of product nonperformance. This inquiry involves a disappointed expectations analysis as in D’Huyvetter v. A.O. Smith [4]. There, a Harvestor silo had been purchased which was thought to have failed to enrich the feed, thus causing poor performance of livestock. The disappointed expectations were the failure of the product to function as anticipated. This, the court felt should have been guarded against by appropriate warranty negotiations. The Grams plaintiffs claimed that some of their calves died, that the immune systems of the animals were harmed by failure of the feed to nourish them.

In the course of the Grams arguments, Tony Spychalla Farms, Inc. v. Hopkins Agricultural Chemical Co.[5] was discussed. There, a fungicide caused seed pieces to die and petrify. It was held that this constituted damage to other property and the economic loss doctrine would not apply. Justice Cooks observed that under present law, that case might be decided differently. This found its way into the decision at page 533:


“In a new case, the result could turn in a purpose for purchasing the product, the reasonableness of anticipating a risk of the product’s failed performance, the availability of warranties or risks sharing mechanisms, and the extremity of the facts.”


In analyzing whether the case involved disappointed expectations, the Grams court was trying to determine whether the problem resulted from a product that didn’t work as opposed to a product that was doing something that could not be anticipated, such as affirmative harm. The court commented as follows at ¶47:


“The same rationale applies here. If a product is expected and intended to interact with other products and property, it naturally follows that the product could adversely affect and even damage that property. A rule that allows tort recovery based on what is damaged, rather than whether the risk of that damage was within the scope of the bargain, would leave little room for contract.”

The “bright line test” was rejected. It was recognized at ¶54 that determining whether or not the problem was one of disappointed expectations is not always simple.

“It will necessarily require interpretation of the purpose of a transaction and the expected uses of a product. While courts undertaking this inquiry should be mindful to prevent ‘contract from drowning in a sea of tort,’ they should also prevent tort from drowning in a sea of contract.”


The court cited to an article by Cane and Sullivan, “The Future of the Economic Loss Doctrine in Wisconsin,” which was critical of the economic loss doctrine as it developed in recent decisions.

The difficulties in applying the economic loss doctrine were highlighted in Foremost Farms v. Performance Process. [7] There, Foremost Farms had purchased an antifoaming product to be incorporated into a mixture of dry milk powder and water, known as “recon”. The rehydrated product was to be used in cheese, ice cream and other dairy products. The defoamer was used for about two years without incident, and then some dairy products were reported to be defective with an off odor and off flavor which rendered them unfit for consumption. It was determined that the complained of products were made from a single batch of “recon”, which had employed defoamer from a specific drum. It was found that this defoamer contained phenol, (a toxic chemical), which is not a component of food. A lawsuit resulted and the defendant manufacturer of the defoamer brought a summary judgment motion. The integrated system test was the obvious starting point of the discussion. The defoamer was intended to be incorporated into the mixture of milk and water. The disappointed expectations test was also discussed because it was necessary to determine whether this failure was reasonably foreseeable by a purchaser and, thus, could have been guarded against. The court opined at ¶23:


“Still, it seems that resolution of the factual question -- was the damage something a reasonable purchaser should have foreseen – will most often require an inquiry into what is normally known by a purchaser in the plaintiffs’ position. Stated differently, the ends of the spectrum are easily resolved. … But resolving cases in the middle of the spectrum will require a factual inquiry into what a reasonable purchaser in the plaintiffs’ position would have foreseen.”

The court then went on to ask questions about whether a farmer in the position of Spychalla would know that a chemical applied to crops might cause harm in a manner unrelated to the function of the chemical. The court also inquired whether anticipation of the need for contractual protection by a purchaser is the sort contemplated by the Grams majority, even if no manufacturer or distributor would agree to such liability. The court inquires:

“When obtaining contractual protection is purely theoretical, is the purpose behind the economic loss doctrine advanced?”

The court went on to comment that what a purchaser should have anticipated will commonly be a factual question. These comments were raised in an apparent attempt to limit application of the economic loss doctrine.

The Foremost court went on to inquire whether defoamer was a component of the recon and the end dairy product. The parties argued about that. They questioned whether the defoamer was part of an integrated system. The record was silent as to what happens to the defoamer after the product is mixed and it serves its purpose. This was thought to raise a factual question. The phenol was found to be a contaminant which served no purpose in the product. Again, a factual dispute remained as to whether it was a component of the recon and the end dairy products. Consequently, the integrated system test did not apply. The court then asked whether the purchaser should have anticipated that the defoamer might include a contaminant, and the court found that there was no evidence on the record at that point. Consequently, the case was referred for further proceedings.

Foremost, on its face, appeared to be a simple situation. The question of when the doctrine applies and when it doesn’t apply if a product causes harm to livestock or other property, was discussed in argument in Grams. The defense there referred to an Iowa case, Nelson v. Todds, Ltd. [8] which involved a meat preservative. The meat preservative did not do its job and the meat spoiled. The court there observed that the economic loss doctrine applied, but opined that, if it had for example burned the hands of the butcher or damaged equipment, the doctrine would not apply. Likewise, there is a case which involved toxins in pig feed [9]. The economic loss doctrine did not apply because it is not to be anticipated that pig feed would contain poisons. Here, defoamer to be used in food product was sold with a contaminant which would render the product unfit for use. On its face, it seems reasonably clear that the economic loss doctrine would not apply because the product did not fail, but did affirmative harm in a manner not to be anticipated. Unresolved factual questions were a problem.

It is apparent that the court of appeals in Foremost was not sympathetic to the wide ranging application of the economic loss doctrine in supreme court decisions, particularly upon motion for summary judgment. The dicta that factual questions will commonly be present as to what a purchaser should anticipate with respect to performance of products is likely to become the standard plaintiff’s argument in opposition to these motions. It will be necessary to carefully depose plaintiffs and experts in preparation for summary judgment motions to determine the exact cause of failure being claimed. This was done in Grams and resulted in the decision. Nonperformance is likely to result in application of the economic loss doctrine. If, however, harmful contaminants are involved, arguably the doctrine will not apply, although we can anticipate situations where contaminants are present to some degree in products in the ordinary course of business.

After Foremost, we may assume that there will be considerable effort by plaintiffs to argue the illusory nature of supposed contractual protections. Inquiry will be necessary as to what, if anything, was done by the parties to address possible warranty issues. The UCC permits manufacturers to disclaim warranties in many cases and sometimes this is done. In a surprising number of cases involving commercial products, there is no disclaimer of warranty. Price based purchasing was a factor in Grams. There, the plaintiff purchased milk replacer, asking that medication be removed. The lesson of these cases is that purchasers who pay no attention to potential failure and other risks in their purchasing decisions should not be looking to the courts to provide them with a claim in tort in the event the risks they have taken result in losses.

The Foremost court acknowledged that the economic loss doctrine applies even in consumer cases and acknowledged also at footnote 8, that relative bargaining power is not a determinant of whether of not the doctrine applies. The Foremost court commented in the footnote that the actual ability to negotiate contractual protections was perhaps not determinative of whether the doctrine should apply. The court seemed unclear as to how to address this issue in view of supreme court decisions on that point. We would likely be correct in understanding that persons purchasing at the lowest available price without taking account of possible risks in so doing, will not find a sympathetic court.

The products that tend to be involved in suits where the economic loss doctrine applies are often industrial or capital goods rather than consumer products purchased at the local hardware store. The relationship between purchaser and seller in such cases is very different from that between the homeowner/consumer and a manufacturer or distributor. Businesses having a continuing relationship are able to negotiate contracts that otherwise would not be contemplated. At times, though they have the ability, they do not address issues of risk. This attitude has been encouraged by our former jurisprudence in which tort remedies were available in most cases. The courts are now telling us that private parties have a duty to address issues of risk in contractual formation and that the courts will hold contracting parties to that obligation.

In summary, we can say that after Grams and Foremost, failure of a product to perform as anticipated, without contaminants, is a good basis for a motion requiring the application of the economic loss doctrine. The economic loss doctrine will not commonly apply when a harmful contaminant exists in a product which causes harm to other property as opposed to failure of the product to function as intended. Thorough discovery is necessary before motions are brought in this area, particularly after the comments in Foremost which are likely to render the process more difficult.



REFERENCES

[1] 283 Wis. 2d 511 (2005).

[2] 226 Wis. 2d 235 (1999).

[3] 257 Wis. 2d 511 (Ct. App. 2002).

[4] 164 Wis. 2d 306 (Ct. App. 1990).

[5] 151 Wis. 2d 431 (Ct. App. 1989).

[6] Wisconsin Lawyer, May 2005, p. 14.

[7] 2006 WI App. 246.

[8] 426 N.W.2d 120 (1988).

[9] Ballard v. Armana Society Inc., 526 N.W.2d 558 (Iowa 1995).