Seyfarth Synopsis: News Flash: “Caveat Propraetor” or “Proprietor Beware” might soon replace “Eureka” as the state motto of California. Okay, that’s just melodramatic hyperbole, but one can imagine that business owners in the state might feel similarly given California’s increasingly hostile business environment. Ever expanding litigation exposure, particularly with regard to labor and employment class actions, weighs heavily on the minds of businesses operating in California, and increasingly nationwide. It should come as no great surprise that class action costs to U.S. companies are at their highest in a decade. According to a recent report by Carlton Fields, spending on class action litigation has reached its highest level in the United States since 2008, and that figure is expected to climb even further.  Of the $2.46 billion spent in 2018, labor and employment matters account for a full quarter of the total, with most legal departments highlighting wage and hour class actions as their chief area of concern. Private equity firms should thus take note as these escalating expenses pose increased risks to their investments, particularly because of labor and employment law.
Potential class action exposure may not even be immediately evident under the existing state of the law. Witness California’s recent judicial and subsequent legislative erosion of piece-rate compensation methods (including mandating complex separate calculations for rest periods and potentially nonproductive time) in favor of hourly pay. Another example is the recent California Supreme Court decision in Dynamex Operations v. Superior Court, 4 Cal. 5th 903 (2018), which created a brand new standard for determining whether workers are misclassified as independent contractors in the state. The Supreme Court in Dynamex wove its opinion out of new cloth, imposing a never-before imposed standard that makes the classification of a worker as an independent contractor far more difficult. The subject is also presently before the California legislature as Assembly Bill 5 and awaits possible codification. Might such dramatic shifts in the law have been predicted? Perhaps not, but they were certainly in keeping with the judicial trend over the years to protect workers’ base pay and to favor employment relationships over independent work—all the more reason for private equity firms to seek the advice of seasoned labor and employment counsel familiar with upcoming trends in the law.
So what are wary private equity firms and other proprietors in the state to do to guard against the growth in class-action costs? As part of the pre-investment due diligence process, investors seeking to mitigate class action risks should scrutinize potential labor and employment liabilities (and potential trends) at target companies ranging from such topics as exempt / nonexempt employee and independent contractor classification issues to compensation methods and pay equity issues. Post-acquisition, when more detailed information is available, investors can reduce potential exposure by conducting thorough labor and employment audits of acquired entities, particularly on wage and hour topics. Companies should also strongly consider implementing enforceable arbitration agreements with class action waivers (particularly in light the Supreme Court’s Epic Systems decision)- which can often substantially reduce potential exposure associated with class and collective action litigation. Even then, companies should be aware that California exempts Private Attorney General Act representative actions from such class action waivers. In short, the principle of Caveat Propraetor applies – so it is imperative to know what potential liabilities are being bought in evaluating the terms of a deal.