A California Supreme Court ruling that created a strict standard for determining who is an “employee” applies retroactively, the Ninth Circuit held May 2 in a ruling expected to have a wide reach.

The decision means a legal test created last year by the California Supreme Court in Dynamex Operations West, Inc. v. Superior Court—making it harder for companies to classify workers as independent contractors—will be applied to cases going forward, as well as to disputes dating back to before the new test was enacted. Formal “employee” status comes with additional rights and benefits to workers.

The U.S. Court of Appeals for the Ninth Circuit’s opinion has major implications for California employers that rely on independent contractors, including gig economy companies like Uber Technologies and Postmates, and could even compel some businesses to simply reclassify contractors as employees and change pay and benefits. It comes as Uber plans to raise as much as $9 billion in what is expected to be the biggest initial public offering of stock thus far in 2019.

The ruling also has important effects on franchised businesses like McDonald’s and international commercial cleaning company Jan-Pro—the defendant in the Ninth Circuit case. Making the Dynamex decision retroactive subjects employers to liability for misclassifying workers as contractors potentially going back four years before the 2018 decision, based on California’s statute of limitations, said Jeffrey Horton Thomas, a management-side lawyer in the employment practice group at Akerman LLP’s California office.

“Today’s Ninth Circuit ruling is the clearest decision yet that the Dynamex decision will be given retroactive effect,” Thomas said. He said the ruling, “could be “devastating to many businesses and requires their attention now.”

Jan-Pro will petition for a re-hearing on the issue, O’Hagan & Meyer’s Jeff Rosin, the company’s attorney, said in an email to Bloomberg Law. He said the issue wasn’t correctly decided and is of “critical important to the case and it’s unique procedural history, as well as other cases.”

The ruling is significant and strongly re-emphasized the strength and clarity of the ABC test, said Shannon Liss-Riordan, an attorney at Lichten & Liss-Riordan P.C., who represented Gerardo Vazquez and other plaintiffs in the case. She said the detailed ruling also provides guidance to lower courts on specifically how the prongs of the test should be interpreted.

The ruling should be a signal that many companies need to re-classify its workforce, she said.

“I believe that the Dynamex decision made that clear and it should have been clear last year, but I believe it makes it clear all over again,” Liss-Riordan told Bloomberg Law. She previously brought cases against companies, such as Jan-Pro, and prevailed on the same argument in Massachusetts, which has a similar worker classification test.

Some companies may have alternatives besides turning contractors into employees, said Richard Reibstein, a management-side partner at Locke Lord LLP in New York who heads the firm’s independent contractor misclassification and compliance practice.

“The Ninth Circuit’s decision, even if the reasoning is subject to question, is now the law in the federal courts determining independent contractor status under California law for so-called ‘wage order’ claims,” Reibstein said.

Gig Companies Face ‘Uphill Battle’

Dynamex established a three-factor “ABC” test to answer whether a worker is a legal “employee” in cases brought under California wage laws. To prove a worker isn’t actually a formal employee, companies have to show the worker has freedom from control over how to perform the services provided; that the services are outside the business’s normal variety or workplace; and that the worker is engaged in an independently established role. The test replaced a multifactor analysis that made it easier for companies to argue workers should be classified as contractors.

Applying Dynamex retroactively is consistent with the state’s “legal tradition,” Judge Frederic Block wrote in the Ninth Circuit’s opinion. The California high court also denied a petition asking it to state that the Dynamex decision should be applied prospectively only—"a data point for us to consider,” Block said.

There’s also no indication that California state courts are likely to limit the Dynamex test to new cases, the Ninth Circuit said.

Businesses have said the standard has the potential to upend gig economy companies whose business models are often based and reliant on independent contracting.

The ruling prompted new litigation against the companies, who’ve generally argued that the test shouldn’t be retroactive and should be applied narrowly. The Ninth Circuit’s May 2 decision potentially telegraphs the outcome of a closely watched battle over worker classification against GrubHub, widely considered a case to test the gig economy’s business model.

The Ninth Circuit cited cases involving a limousine business and timber harvester to “make clear that gig economy companies like Uber and Lyft face an uphill battle in asserting that their business is their app, rather than providing rides to customers,” Michael Rubin, a labor-side attorney at Altshuler Berzon LLP in California, told Bloomberg Law. Rubin filed amicus briefs as a representative of unions and worker advocacy groups in the Dynamex case and participated in oral arguments.

“The analysis shows that the focus is not how a company accomplishes its core business objectives, but what that core business objective is, whether transporting passengers or harvesting timber,” Rubin said.

The court’s findings on that end will likely present a challenge to gig economy companies trying to prove the ‘B’ part of the new test—that services provided by a contractor are outside the business’s normal variety.

Liss-Riordan, who represents driver Raef Lawson in the GrubHub case, cited the Dynamex decision in her appeal and said the new ABC test clearly means Lawson’s an employee and not an independent contractor.

Franchises On Hook

The Ninth Circuit’s decision also has particularly important application to businesses that use a franchise model.

That industry and a representative lobbying organization, the International Franchise Association, has been urging lawmakers and courts for a number of years to limit franchisors’ vicarious liability or ‘joint employment’ liability—in other words, to limit circumstances where both a parent franchisor and franchisee can be held liable for employment illegality.

“Many franchisors and the IFA have long insisted that franchisees and franchisors are entitled to special protections under California wage law, and the Ninth Circuit in this opinion made clear that’s not the case,” Rubin said.

The court essentially held that the “ABC” test applies to both a franchisee and the parent franchisor when deciding whether a group of workers are formal employees, pointing to increased exposure to liability for franchisors.

The “applicability of Dynamex in this case presents an unfair situation whereby a franchisee who severed his franchise relationship a decade ago” would “have his case analyzed against JPI under a legal standard adopted last year,” Rosin said.

“Short of legislative relief or intervention by the U.S. Supreme Court, California’s 76,000 franchise hotels, gyms, restaurants, and retail stores will live in legal uncertainty for the foreseeable future,” said Matthew Haller, a senior vice president at the IFA. The “9th Circuit has created an anti-business atmosphere that will make both franchise investors and entrepreneurs skeptical of opening or expanding in California.”

Case Returns to Lower Court

The decision means Jan-Pro must defend class claims that it illegally designated California employees as independent contractors.

The Ninth Circuit rejected Jan-Pro’s argument that retroactive application would be unfair to business owners. Limiting application of the ABC test to new cases only would defeat the remedial purposes of California wage law cited by the state supreme court, Block said.

Retroactive application ensures that the workers who sued Jan-Pro can provide for themselves and their families, Block said. It also protects the janitorial industry as a whole “by putting Jan-Pro on equal footing” with other businesses, and shields California from the burdens of having to support citizens who are paid “substandard wages.”

A lower court that had dismissed the claims must now reexamine the case under the ABC test.

Judges Ronald M. Gould and Marsha S. Berzon joined the opinion.

The case is Vazquez v. Jan-Pro Franchising Int’l Inc., 9th Cir., No. 17-16096, 5/2/19.