Investing requires a lot of assumptions and a leap of faith. You need to feel confident enough about the future to pay a multiple of current earnings. And everything that is happening in AI at the moment is sending a stake right through the heart of numerous technology companies — and their valuations.
Previously, the market felt really good about software-as-a-service (SaaS) stocks and their ability to generate dependable, recurring cash flows. For more than a decade, this business model looked invincible and attracted eye-wateringly high multiples.
But today, those share prices are in disarray because of AI.
Initially, social media posts attributed this to “vibe-coding” and the risk of people using AI to create alternative solutions that save money. There’s some truth to this (you can use an AI image generator instead of a full-fat Adobe suite), but the issue is far more nuanced.
With Adobe trading on an earnings multiple of 15 vs a five-year average of 39, the market believes that SaaS models have lost their edge. I must point out that a multiple of 15 is still quite high by any “normal” standards. However, the US tech sector is anything but normal.
The AI era is hitting white-collar jobs first
It’s worth noting that Adobe is just one of many examples. Salesforce is down 33% in the past 12 months, an almost identical performance to Adobe and with a chart that exhibits near-perfect correlation. These businesses have nothing in common other than one core attribute: they operate SaaS models.
Even though both Adobe and Salesforce are telling a story of AI integration in their businesses, the market has repriced the appeal of SaaS models. There are really two reasons for this: pricing power and risk to volumes.
The first issue is at least partially derived from the proliferation of AI models that are currently being priced at unsustainably cheap levels. Even the paid tiers of the various LLMs are nowhere close to generating profits for the hyperscalers providing these models.
This means SaaS players are competing against the land-grab budgets of Microsoft, Alphabet, Anthropic and others. This is highly destructive competition with predatory pricing. The consumer is the only near-term winner of this fight. With many questions being asked about who the long-term winners will be, the market is taking a cautious approach by paying far less per dollar of current earnings.
The second issue is now playing even more of a role: a reduction in the number of employees in office jobs. Every seat that can be replaced by an AI model is one less employee who needs a Microsoft Office licence or a Cloudflare cybersecurity package. This is one less user of a Salesforce login or an Adobe Creative Suite application.
In fact, Cloudflare is a great example of just how worried the market is about this stuff. The company announced that it would be cutting more than a fifth of its workforce as part of a strategy to follow an “agentic AI-first operating model”.
Cloudflare’s share price reacted sharply negatively, a counterintuitive outcome until you think about the message that Cloudflare is sending to the market. “We can dramatically cut our headcount and use AI” — and that means that their customers can do the same, proving the point about the risk to SaaS volumes.
And before you jump on the ethical bandwagon here, do not for a minute make the mistake of believing that the company you work for isn’t thinking along the same lines. I spend every single day working with Copilot and testing its capabilities. The progress made in just the past few months is staggering.
The hard truth is that where automation used to be a risk to blue-collar jobs, the AI era is hitting white-collar jobs first — and taking demand for SaaS products with it. At least, that’s what the market is saying. If the market is wrong, the SaaS stocks are a bargain. If the market is right, they are probably still too expensive.
But the impact of AI is going way beyond just the SaaS names. It may be deflationary in the white-collar sector, but it is extremely inflationary in areas such as energy and technology components.
And here’s the risk that nobody is talking about: the residential property sector. If white-collar jobs start paying 25%-50% less than before, who exactly is going to pay millions for a family home in a middle-class suburb? And where will that leave bank balance sheets and fixed asset collateral?
The world is changing. Rapidly. And I’m not about to change my approach from renting to buying my house.
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