The cost of regulating innovation: Uber and its labor relations

This week the California Labor Commission ruled that an Uber driver was considered an employee, not an independent contractor. In case you've just woken from a coma and don't what Uber is, it's a platform that connects drivers and passengers. You open Uber on your phone, type in your location to be picked up, wait for someone to accept the job, and watch on a map as the driver make his or her way to pick you up. 

Crucial to this model is the steady steam of drivers willing to accept the job. All drivers are currently considered independent contractors. From Uber’s perspective, they set their own schedule, choose whether it is a full or part-time endeavor, and enjoy a great deal of autonomy with respect to the vehicles they drive and the clothes they wear. 

The IRS considers three critical factors in determining whether someone is an employee or an independent contractor: Behavioral control, financial control, and relationship. Here, the Labor Commission likely relied on the fact that Uber sets the rates, can terminate drivers with poor ratings from its platform, and has some degree of control over vehicle selection and attire of drivers.

This ruling, however, does not change the game just yet. “The California Labor Commission’s ruling is non-binding and applies to a single driver,” an Uber spokesperson said. “Indeed it is contrary to a previous ruling by the same commission, which concluded in 2012 that the driver ‘performed services as an independent contractor, and not as a bona fide employee.’ Five other states have also come to the same conclusion. It’s important to remember that the number one reason drivers choose to use Uber is because they have complete flexibility and control. The majority of them can and do choose to earn their living from multiple sources, including other ride sharing companies.”

Let’s let the implementation of regulations and legal definitions fall to the lawyers, as it should. Let us instead talk about the philosophical implications of the power regulators have over innovation.

We need to make a few assumptions. (Yes, I know, ass-u-me.) For the sake of argument, let’s say the ruling stands, or worse, it’s used as a precedent in the future to usher in sweeping changes to Uber’s business model. Let’s also make the reasonable assumption that doing so has serious, negative implications on Uber’s business model by increasing direct and indirect labor costs, management and overhead expenses, regulatory and legal compliance requirements, and the general difficulty in finding and retaining drivers that meet their expectations. All said, the margins and valuations for the company are likely to be negatively affected, as it's potential for growth, if it's not suffocated altogether. 

The change may appear to be a short-term win for some drivers, because we can also assume that some portion of Uber drivers want to be employees and some Uber drivers want the flexibility that comes with being an independent contractor. That said, while it does present some short-term benefits to some drivers, it poses serious long-term risks to all drivers.

When a business model is threatened, either by regulators, lawmakers, other entrepreneurs, or even lawyers (as is also the case with Uber), its long-term viability poses serious concerns for all stakeholders. In this sense, the employees, contractors, executives, and investors, share a common interest, notably survival. Regulators overseeing the business and lawyers that are suing it don't share this interest. 

While the opportunity for drivers at Uber may not be perfect, the opportunity appears to be great enough for thousands of people to voluntarily begin working with Uber. And, after whatever perceived issues there are with compensation, plenty of drivers stay. It speaks volumes that Uber’s primary challenge is not recruiting new drivers. If the market forces of supply and demand are to be believed, the fact that Uber has a sufficient number of drivers seems to indicate that it creates more opportunity for its drivers than it does headaches. This is likely because Uber drivers use Uber for temporary work, make an average of $19.04 per hour, have the flexibility to work full or part-time, set their own hours, wear largely whatever they want, and earn more if they work more.

Ultimately, this means Uber is creating value for consumers (as indicated by the increasing demand), investors (as indicated by the increasing valuation), and drivers (as indicated by the increasing number of drivers in the Uber network).

If regulators or lawyers are successful in thwarting Uber’s business model, it’s not just millions of consumers that will be left on the side of the road trying to hail a cab or hoping the one they called hours ago eventually shows up. It means 160,000 well-educated workers making a conscious decision to strategically partner with the company will no longer have the opportunity they once had.

The best course of action for regulators, lawmakers, and judges today is no action. Uber has direct competitors that can exploit any perceived unfair treatment to its network of drivers and the decision to join Uber as a driver, on its terms, remains a voluntary one. An archaic view of protectionism is short sighted and poses serious risk to innovation and progress long-term. After all, we aren’t rolling around in horse buggies for a reason. 

I do not have any financial interest in Uber beyond people using my referral code when they sign up, which is adh3e.