Get your free copy of Editor's Digest
FT editor Roula Khalaf picks her favourite stories in this weekly newsletter.
One notable corner of the tech world remains untouched by the artificial intelligence craze sweeping the stock market.
If generative AI is truly the next big sales opportunity for the tech industry, software companies should be the biggest winners. After all, most AI is likely to emerge as an extension of the business software that companies rely on for their daily work.
But the BVP Nasdaq index of cloud software companies is down nearly 10% this year, while the Nasdaq Composite is up more than 20%. It's also down in half from its pandemic-era peak. The downturn signals a crossroads for the industry: A long phase of growth propelled by the rise of the cloud appears to be entering a new, more mature state, but the next phase — the widespread adoption of generative AI in business — is only just beginning.
At a time like this, Wall Street faces a complicated question: If the cloud business is truly maturing, investors need to shift focus from growth to value more quickly. Technology companies that recently reported disappointing results, including Salesforce, MongoDB and Workday, are trying to explain the slump away from the long economic downturn. But the longer it goes on, the harder that argument will be to maintain. Salesforce's revenue has doubled over the past four years to $36 billion. At that size, its modest 10% growth forecast for next year is looking more like the norm.
At the same time, investors need to determine which companies will ride the next wave of growth and which will fail to adapt and be left behind.
Companies say that AI's lack of impact on sales is simply a matter of timing. For example, Salesforce CEO Marc Benioff pointed to the challenge of training armies of salespeople to handle so-called “harder, more complex selling.” Customers are wrestling with a variety of questions, trying to understand how new AI models work and how employees should interact with them. They also need to consider how to redesign business processes to get the most out of the technology and how to address new threats to data security.
While revenues are still tiny, software companies are reporting strong customer interest in piloting new AI services, which means AI dividends may just be overdue.
But the disruptive threat from AI suggests things aren't so simple. For one, it's a sea change in cloud companies' business models. Most companies rely on per-seat subscription fees, which means revenue scales with the number of employees using the service. If generative AI works as expected and significantly improves employee productivity, customers should be able to do more with fewer staff.
The result has been a shift toward consumption-based pricing, or charging based on how much of the new services are actually used. Charging for usage has the added benefit of offsetting some of the high costs of delivering generative AI. But unless this translates into real, demonstrable business benefits, software companies could face backlash as customers see their bills soar.
Software groups also have to contend with the history of technology. In the past, new technology eras, such as the rise of client-server computing in the 1990s and cloud computing in the following decade, have brought a new wave of emerging software companies to the fore. New companies, their products, and their business models designed from the ground up to fit the new computing paradigm start out with a huge advantage.
This first wave of “AI-native” software companies seemed to only “wrap” large language models and add the facade of industry-specific expertise to give businesses a path to generative AI, but they are all working hard to gain a foothold on which to build more compelling offerings.
Salesforce's Benioff said it will be tough to dislodge the incumbents, as companies like his are the repository of customers' most important data and have a huge advantage when it comes to training the AI models that companies find truly useful.
That will only be meaningful if today's cloud companies can adapt their products and processes to the new technology quickly enough. For now, Wall Street is reserving judgment.
RichardWaters@ft.com
