Competition, innovation and regulation are spontaneously combusting in one unlikely state, as a company trying to upend HR and group insurance sales comes up against the law.
Zenefits, a San Francisco-based company offering organizations free online HR, payroll and benefits software, has been warned by Utah Insurance Commissioner Todd Kiser that a key part of its service, free insurance brokerage, violates state laws against inducements or rebates that may skew an employer's health benefits decisions.
Zenefits pitches its online HR platform as both free and simple, with outsourced and paperless employee on-boarding or off-boarding, direct deposit, automated deduction and 1099 filing, state and local tax payment, and benefits management -- health insurance brokerage being perhaps the most profitable and disruptive part of it service.
Licensed as a group insurance broker, Zenefits draws a revenue stream by acting as a broker between clients and third-party servicers and collecting commissions from insurers; because it's free, according to Kiser, the service is illegal.
"By providing a few up-front and free-to-all HR services," Zenefits in effect offers "violating inducements and indirect rebates," Kiser wrote in a letter to Zenefits executives. A market conduct investigation by Kiser's office concluded that the company could be held liable for up to 10 violations and fined $97,000. Kiser has also ordered a halt to its business in the state unless its practices are changed.
"This seems crazy, but it's true," Zenefits CEO Parker Conrad wrote on the company's blog. "We plan to fight this through the courts, if necessary, and we are hopeful that Utah Governor Gary Herbert will intervene to reverse this injustice."
Other states have laws similar to the anti-inducement regulations Kiser is enforcing in Utah. But the state seems to be the only place Zenefits has encountered government intervention. "Other states have taken a look at this issue, and every single one of them has decided not to take action," Conrad wrote.
Conrad argued that the move by Kiser, a former insurance broker himself, is more about protecting an established industry -- health insurance brokers -- than preventing actual inducements.
Kiser "wants to block Zenefits in order to ensure 'fair competition' among insurance brokers," Conrad wrote.
"But there's nothing 'unfair' about this. Zenefits is just better and makes running a small business easier, and companies in Utah and across the country are voting with their feet. There's nothing stopping insurance brokers from building great software to compete against us -- it's just that they haven't done so, yet."
Insurance brokers may very well feel threatened by Zenefits and the prospect of digital disruption, on top of other pressures on their business from insurers and businesses.
"They are certainly a threat to the industry. Every broker in the country is scared now of Zenefits," Paul Mifsud, the chief executive of a Santa Clara, California brokerage, recently told the San Jose Mercury News.
Insurers may shrug at the rise of Zenefits. They're still paying a commission and dealing with pressure in the employer sponsored insurance market, and if anything, a free service like Zenefits may be the difference between a small or medium-sized business deciding to offer health benefits or just send their employees to the individual market.
With 2,000 clients after a year-and-half in business and valuation of around $500 million, Zenefits is one of those companies that is loved by Silicon Valley investors, who see a big opportunity in disrupting the paper-heavy and bureaucratic enterprise HR department.
Conrad, a former product manager at biotech company Amgen and the developer of free personal finance software, believes Utah's regulatory action is only a temporary impediment. He has started a petition to convince Governor Herbert to back down, noting that Utah has been pitching itself as a great location for tech companies with the slogan "Silicon Slopes."
"While we have to uphold the law on the books, there are times our laws must adapt to changes in the marketplace," Herbert said in a statement. "With the legislative session just a few weeks away, I am willing to work with all stakeholders to ensure Utah has the right policy to embrace innovative ideas while protecting consumers."
The saga, meanwhile, is fodder for the greater debate about the intersection of regulation and innovation.
As investor and Internet guru Marc Andreessen, whose VC firm led the most recent investment in Zenefits, argued on Twitter, Kiser's sanction is a "classic example of regulatory capture penalizing consumers to protect incumbents."