Codifying Dynamex: Impact on Mergers and Acquisitions

As widely reported, Governor Newsom has signed Assembly Bill 5 which codifies the ABC test here in the Golden State for how to properly classify workers as “employees” as opposed to “independent contractors.” The new test was adopted by the California Supreme Court in 2018 in Dynamex Operations West v. Superior Court, 4 Cal.5th 903 (Cal. Supreme Court 2018). The new law makes it difficult to classify workers as independent contractors. The law goes into effect on January 1, 2020, and will be retroactive. That means that workers who have been misclassified can seek recovery of unpaid minimum wages or overtime or penalties for untaken meal breaks for the previous three to four years. There is a similar window for actions taken by the various State agencies that are tasked with enforcing California’s labor laws.

Needless to say, Dynamex and now AB 5 are causing much turmoil in the human resources departments of businesses that rely on independent contractors. A similar level of turmoil is also going to be caused with respect to business mergers and acquisitions (“M&A”). Indeed, there may be a significant drop in M&A activity until these worker misclassification issues are resolved. Without question, worker misclassification issues must be brought to the forefront of any M&A deal. Retaining an experienced and deal-tested San Diego corporate attorney is essential. Business purchase agreements must add or amend provisions with respect to representations and warranties concerning worker classification, indemnity provisions must be thorough, robust holdbacks will be necessary, and massive due diligence is warranted where the target company has any significant number of workers classified as “independent contractors.” Not only is the acquiring business potentially liable for the wrongly classified workers, the owners of the respective businesses are also potentially personally liable. Normally, the corporate shield protects the personal and family assets of the owners. But there are some exceptions including some types of unpaid taxes and unpaid wages. Thus, the owners of the acquiring company have to be very careful not to be held liable for any significant cases of workers wrongly classified as “independent contractors.”

M&A due diligence should include, at the least, the following:

  • Conducting an audit of any and all workers classified as “independent contractors” recognizing that AB 5 and Dynamex do not apply to just so-called “gig workers”
  • Auditing any sort of service, consulting, or contractor agreement that might potentially be invalidated by Dynamex and AB 5 — in other words, an “independent contractor” misclassification can “hide” under the cover of a service agreement
  • Evaluate the potential legal and financial exposure of the target company
  • Evaluate carefully whether an asset purchase — rather than a stock sale — can lessen the risk of successor liability
  • Evaluate contracts with any staffing agency that has provided workers; such agreements must detail how responsibilities are allocated and have very strong indemnity provisions; such contracts might need to be redrafted prior to purchase
  • Evaluate potential joint employer issues where a staffing agency has been or is being used
  • And more

Call San Diego Corporate Law Today

For more information, call attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard provides legal services related to business law, private securities offerings/sales, the sale/purchase of a business, and for mergers and acquisitions. Mr. Leonard can also assist with setting up a new corporate entity, annual corporate maintenance, and review and drafting of business contracts. Mr. Leonard can be reached at (858) 483-9200 or via email. Like us on Facebook.

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