Two VCs just told us how tech startups create economic inequality

People in the tech community like to think that their work does only good. But two venture capitalists just told Business Insider their worst-kept secret: That tech startups often exacerbate economic inequality rather than alleviating it. The system is "crushing the dreams of tens of thousands of employees," the billionaire Mark Cuban said.

It's worth understanding exactly how this works if you care about the way inequality distorts society.

The tech startup VC mantra goes something like this: Tech innovation creates new jobs that are often highly paid. Their products create new markets, which create new profits, and that cycle generates more economic activity. That filters through into an infinite number of vendor companies and markets.

In the short-term, these new jobs are a direct transfer of wealth from VCs and their investors to workers in the form of salaries. After all, startups usually go through a period when they have negligible revenues. Those wages are simply workers burning VC money. Trickle down works! The system becomes even more virtuous if the company becomes successful. A big buyout exit or an IPO can suddenly turn salaried workers with worthless paper stock options into millionaires. This is a good thing.

But the mantra isn't playing out that way.

Between the dot-com crash of 2000 and today, a significant change occurred that hurts the interests of tech workers and enriches VCs and their investors. Previously, tech companies would go public and their employees would see a sudden increase in their wealth as their shares became worth real money. But now tech companies have stopped doing public IPO stock offerings, and are staying private instead, concentrating wealth gains in the hands of a tiny minority of owners and investors in the tech world.

This "staying private" phenomenon was best illustrated by Andreessen Horowitz analyst Benedict Evans, in a slideshow with the caption "It's different this time," published last year. Evans said that tech IPOs are at a much smaller level than they were in the 1999/2000 bubble because companies are staying private, taking longer, taking later rounds of investment, and the returns on those investments are staying private, too. (Uber is the best example of this - it had a $41 billion valuation at the time of Evans' presentation after taking 10 rounds of investment totalling $5.9 billion.)

Evans didn't address the economic effect of all this on workers and investors. But Cuban (the owner of the Dallas Mavericks who made his money selling Broadcast.com to Yahoo) and Sequioa Capital's Alfred Lin (who invested in Airbnb and Reddit) told Business Insider's Matt Rosoff and Biz Carson that it hurts employees. From their story:

One difference between this bubble and that of 2000 is that most of the liquidity is still tied up in the private markets. Companies, investors, and employees have made big gains on paper, but that doesn't mean anything unless an employee can actually spend it on anything.

"For employees and investors they are SOL [s--- out of luck]. That is, unless these companies wise up and start going public ... The VC attitude of not going public is crushing the dreams of tens of thousands of employees with options." -Mark Cuban, billionaire investor

"In '01/'02 most of these companies were public, so it played out in the public market. You had companies that went public and then lost 90% of their value or went bankrupt. But in the interim, the employees got something out in the public markets. ... Here, there's no liquidity." -Alfred Lin, Sequoia

VCs and their investors are able to trade their private shares on the secondary market. If they need the money, they can pull it out of their paper stock options. Employees can't do that. Their options are worth zero until the day the company stages its IPO (or is acquired).

On Evans' numbers, there has been an 85% reduction in the number of IPOs. And of the IPOs that do occur, they now take more than twice as long (11 years) as they used to. It's simply much, much more unlikely for a tech worker to get rich in an IPO today than it was in 2000.

To be clear, even in the "good old days" VCs and investors would get richer than workers in IPOs. But at least workers would get something. Today, VCs and their investors are holding onto all that private value (they're holding the risk, too) and employees are getting less of it.

In terms of who wins and who loses, that means tech workers are the losers here.