A lengthy philosophical standoff looks like it finally came to an end on Tuesday...at least in California. Voters there overwhelmingly agreed that drivers for ride-hailing services such as Uber Technologies (NYSE:UBER) and Lyft (NASDAQ:LYFT) should be exempt from rules that categorize them as employees rather than contractors. Contractors are much cheaper for companies to utilize, so much so that Uber estimated classifying its drivers as company employees could more than double prices for some of its California customers. It was even intimated that Lyft and Uber may cease operations in the West Coast state rather than operate in such a fiscally restrictive environment.

While the ballot measure only applies in California, it may be a hint of how people in other parts of the country feel about the so-called "gig economy."

Man dropping a ballot into a ballot box.

Image source: Getty Images.

Prop 22 unwinds previous efforts

According to California's Proposition 22, "an app-based driver is an independent contractor and not an employee or agent with respect to the app-based driver's relationship with a network company." Around 58% of the state's voters were in favor of Prop 22's exemptions, according to the most recent reporting from the Los Angeles Times.

The measure is a major rebuke of laws that went into effect in September of last year.

Bill AB5 -- appropriately nicknamed the "gig worker bill" -- narrowly redefined what constitutes a contractor. If the driver is controlled by the company, but isn't doing work outside of the company's course of business, and regularly does work for the company, then he or she is an employee. As such, that driver is entitled to mandated employee benefits like access to health insurance and minimum wage pay.

Neither Uber nor Lyft has elected to change their business model to comply with AB5, prompting the state of California to file suit against both companies in May of this year.

Proposition 22 doesn't undo the nascent law being used as the basis for the suit, but instead circumvents it.

Impact on Uber, Lyft

The actual impact AB5 made on Uber and Lyft isn't entirely clear.

While both companies are growing, neither has turned a reliable profit as of last year. The COVID-19 pandemic led to sweeping shutdowns early this year, undermining much of the need for personal transportation services. During its second quarter that ended in June, Uber's revenue fell 22%. Bookings were down 35%. Lyft's top line fell more than 60% year over year for the same quarter.

The easing of restrictions has made matters more normal than they were in March, but the environment is still challenging. Both companies remain in the red through the first half of 2020, with analysts expecting reports of more losses for their recently ended quarters.

Realistically speaking, though, neither Lyft nor Uber were likely to turn a profit this year even with the challenges linked to the pandemic.

That said, Uber economist Alison Stein was willing to publicly crunch some numbers regarding AB5's impact on the company's operation. Her conclusions easily illustrate why Uber prefers contracted drivers over employees, which Reuters suggests would cost the company an extra $7700 per year, per driver. If drivers are categorized as employees, rates for California's riders could swell anywhere from 25% to 111%, depending on the area. That would, in turn, reduce demand for trips somewhere between 23% and 59%. 

And the end result of that shift? Double-digit declines in the number of individuals driving for Uber. It all translates into a lot less opportunity for Uber to collect revenue in the state.

Presumably, Lyft's math looks about the same.

The bottom line

Both Uber and Lyft could live without doing business in California, but it would hurt. Lyft says the state accounts for around 16% of its total rides given, and contributed $576 million to its 2019 top line of $3.6 billion. Similarly, Uber cites San Francisco and Los Angeles among its top five markets, which collectively account for 23% of the company's total business. These key markets look like they'll remain intact.

What's more, Proposition 22 could affect these ride-hailing companies' business beyond California. Ditto for names like DoorDash and Instacart, which also rely heavily on contract workers. Laws comparable to California's AB5 are currently being contended in New York as well as in New Jersey, while lawsuits testing contractor/employee relationships are proceeding in other parts of the country. These cases may force states, courts, and voters to take clearer stances on the matter.

To the extent that California speaks for the rest of the country, we know where voters stand. We also know they're capable of ultimately overriding lawmakers' efforts.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.