Lyft Gets a Reprieve in California, But Challenges Remain

Lyft (NASDAQ:LYFT) stock slumped 12.5% for the week ending Aug. 17, with news in its home state of California prompting much of that weakness. And even an appeals court victory on Thursday night won’t eliminate all the problems facing the ride-sharing company.

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Here’s a brief rundown of the Golden State climate – not sun and palm trees type – Lyft and rival Uber (NYSE:UBER) are facing in California.

In September, Gov. Gavin Newsom signed into a law a well-meaning, but what’s ultimately going to prove disastrous piece of legislation known as Assembly Bill 5 (AB5), or the “gig worker” bill.

Pitched by Assemblywoman Lorena Sanchez (D-San Diego), AB5 has a slew of consequences – intended or unintended is up for debate. For instance, the law limits freelance writers to 35 stories per year per client – an arbitrary number the aforementioned politician can offer no scientific basis for.

But the primary aim of the bill was to force Lyft and Uber to make drivers workers, extending to them minimum wage, health care benefits and vacation time.

To be sure, that’s well-meaning, but it’s a threat to the modern day ride-hailing business model and very much takes the “side hustle” out of “side hustle,” which is what Lyft and Uber argue they offer drivers.

Fast-forward to today. The two companies spent tens of millions of dollars to defeat AB5, but they consistently lose court cases challenging the legislation. On Aug. 20, Uber and Lyft finally won a state appeals court ruling that allows the companies to continue to operate for now.

The ruling came down just hours before Lyft was to stop operating in the state altogether. California accounts for 16% of Lyft’s revenue.

“While we won’t have to suspend operations tonight, we do need to continue fighting for independence plus benefits for drivers,” Lyft spokeswoman Julie Wood said.

With Thursday night’s court victory, Uber and Lyft can continue to operate in California while the appeals court looks closer at the case. Oral arguments are scheduled before the appeals court in mid-October.

Legal Battles Will Continue

Lyft is also urging Californians to support a ballot measure, Proposition 22, that will keep drivers and independent contractors.

There’s also chatter that both firms are mulling a franchise model whereby the brands would be licensed to drivers. That could be a workaround to AB5, but it could also take some time to execute, meaning there very well could be a gap of time where the two ride-hailing giants aren’t operational in California.

What should concern investors considering either Lyft stock or Uber is the lack of foresight both management teams displayed. Both are based in California and should have known the state is difficult to business in. Every year, CNBC publishes rankings of states based on ease of doing business and every year, California scores poorly. Last year, it was No. 32 on the list.

Not only that, but as more and more Golden State companies, particularly in the Silicon Valley and the Bay Area, go public, minting billions for venture capital investors and high-ranking executives, California has sought larger slices of those pies.

To that end, I’d argue both companies committed egregious missteps by not giving more drivers shares in their 2019 initial public offerings (IPOs). That could have sent a message to California politicians that management cares about drivers, but that ship has sailed. Opportunity lost.

Another Woe for Lyft Stock

Putting the California issue aside for the moment, Lyft is still vulnerable in the comparison against Uber.

Uber has larger market share in North America, more international exposure and the Uber Eats business, which is proving to be a boon amid the novel coronavirus pandemic.

Currently, margins aren’t great on food delivery, but that’s something Uber can refine over time and that business gives it a larger revenue opportunity to draw from while Lyft was slow getting into the segment. Owing to California, both are risky plays over the near-term, but for investors that insist on dabbling here, Uber has more long-term levers to pull.

Todd Shriber has been an InvestorPlace contributor since 2014. As of this writing, he did not hold a position in any of the aforementioned securities.

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