October 24, 2012

By Oliver Herzfeld, Forbes IP Counsel

In Hannibal Saldibar v. A.O. Smith Corp., the court recently denied post-trial motions filed by Tile Council of America, a licensor trade association, essentially holding it liable in connection with a death caused by licensed products that Tile Council neither manufactured nor sold. Tile Council’s liability was predicated on its detailed specifications governing all aspects of certain asbestos-containing products. The case presents an excellent opportunity to review the laws of trademark licensor liability for injuries caused by licensed products.

Why Liability Without Privity?

Up until the 1940s, victims of defective products had limited recourse against the products’ manufacturers since the laws of negligence require breach of a duty of care and privity between the parties, both of which can be difficult to prove or may not exist in the relationship between manufacturer and consumer. In response to the injustice of such victims having to shoulder the burden of injury without a remedy, the laws of product liability emerged through a progressive series of judicial decisions and legislative acts. Under such laws, manufacturers must actively anticipate and prevent defects in the products they produce and sell, warn consumers of dangers, and insure against the risk of injury to the public. From a policy perspective, manufacturers are in a better position to initially bear the costs of prevention and insurance and can pass the costs on to the public in the form of higher product prices. The question is, to what extent do product liability laws apply to trademark licensors that are not manufacturers or sellers of defective products?

Apparent Manufacturer Doctrine

Section 14 of the Restatement (Third) of Torts, a major codification of product liability law, states “One engaged in the business of selling or otherwise distributing products who sells or distributes as its own a product manufactured by another is subject to the same liability as though the seller or distributor were the product’s manufacturer.” Comment “d” to that section provides the following explanation: “Trademark licensors are liable for harm caused by defective products distributed under the licensor’s trademark or logo when they participate substantially in the design, manufacture, or distribution of the licensee’s products. In these circumstances they are treated as sellers of the products bearing their trademarks.” This is sometimes called the “apparent manufacturer doctrine.” In other words, trademark licensors are initially presumed not liable for injuries caused by their licensees’ products. However, if the licensors participate substantially in the design, manufacture, or distribution of such products, they can be held liable for defects in the products as if they were the manufacturer. Of course, state laws vary. And the “substantial participation” condition has been misunderstood by some courts applying the doctrine.

Enterprise Theory Of Liability

Trademark licensors are also initially presumed not liable under the so-called “enterprise theory of liability.” However, they may be held liable if they are part of the overall enterprise responsible for placing defective products in the stream of commerce.  For example, licensors may be liable if they are found to have exerted substantial control over the manufacturer, or materially contributed to, facilitated, induced, or were directly responsible for the defective products by providing detailed specifications, manufacturing or design standards or otherwise.

What Should Licensors Do?

In light of the foregoing, what should trademark licensors do to minimize their exposure to liability? One may mistakenly conclude that licensors should grant their licensees full autonomy and play as minor a role as possible in overseeing licensees’ design and manufacture of licensed products. But that would not be a good idea since, under the U.S. Trademark Act, ownership of a trademark will be deemed abandoned if a licensor grants unrestricted use of its mark or otherwise fails to control the nature and quality of all products sold under a license. A better approach is to perform proper due diligence and only contract with licensees that take appropriate precautions to address and avoid all reasonably foreseeable product liability risk. Further, every license agreement should include (i) warranties that the licensed products will be free of defects in design, materials and workmanship, (ii) testing, inspection and audit obligations to minimize the likelihood of defective products entering the stream of commerce, (iii) strong indemnification provisions in favor of the licensor covering product defects and other types of liability claims, (iv) a licensee obligation to maintain comprehensive insurance coverage to respond to product liability and other claims, and (v) where appropriate, guarantees from a corporate parent of the licensee or other financially sound entity to ensure the performance of all the licensee’s obligations.