How is the Acceleration of AI Adoption Affecting the Valuation of SaaS Businesses in the Mid-Market?

Investors loved it, private equity firms chased it and public markets rewarded it with valuation multiples that often seemed to defy financial logic. Over the last few decades SaaS businesses have become the most prized possession in the digital economy.

The Rise of SaaS and the Golden Era of Valuations

SaaS’ combination of recurring revenues, high gross margins, predictability and opportunity for scalability, has made it an consistently attractive target for investors. Consequently, since the late 2010s trade buyers and private equity firms have competed fiercely for these quality software assets. The investment thesis was elegantly simple. Build software once, sell it on a recurring basis, deploy anywhere thanks to the cloud, retain customers year-on-year and increase revenue rapidly. Unlike traditional industries, SaaS companies could grow without opening new factories, hiring large numbers of employees or carrying significant inventory. In comparison their revenue was predictable, margins were attractive and scalability was almost limitless. An apparently enormous multiple was quickly franked by rapid growth.

Then came the pandemic.

As offices were forced to close and workforces dispersed, software moved from being an enabler and improver of business, to becoming business critical. The result was a surge in demand for cloud-based software unlike anything the sector had experienced before. At this point SaaS appeared to be an unstoppable force, as valuations continued to climb. This period represented something of a ‘golden age’ for SaaS. The widespread adoption of cloud computing transformed how businesses purchased and consumed software. The COVID-19 pandemic accelerated these trends dramatically, as almost overnight cloud software became critical infrastructure for organisations as they adapted to remote and hybrid working environments. As a result, demand surged across workflow automation tools, collaboration platforms, cybersecurity solutions and digital transformation technologies. As capital continued to flow into the software sector, public market valuations soared and private market transactions followed suit. By the end of 2021, software companies were consistently trading at eye-watering revenue multiples.

However, beneath the surface a new technological shift was beginning to emerge…

The Dawn of AI

While investors were still focussed on cloud adoption, another innovation was quietly entering the market. Artificial intelligence (AI). The rapid progress of AI has forced investors, operators and acquirers to reassess many of the assumptions that have underpinned software valuations for the last decade.

Compared to other technology cycles, the adoption of AI has been extremely fast.  Government research found that there were 3,170 active AI companies in the UK in 2022 and 5,862 active AI companies by the end of 2024 – an 84.9% increase in 2 years. Unsurprisingly, enterprise spending on generative AI has reached meaningful levels in a fraction of the time it took cloud software to gain widespread acceptance. Organisations are no longer experimenting with AI solely through innovation teams or isolated pilot schemes. Instead, AI is increasingly being embedded directly into core business processes, customer interactions and operational work flows as headlines predict the technology will swiftly revolutionize working practices and replace human jobs.

The Impact on SaaS

It is clear that AI isn’t going anywhere, which is threatening profound implications for SaaS businesses, particularly those in the mid-market and currently considering disposal or fund-raising.

Historically, the value of a software company was largely determined by the company’s ability to build and distribute software quickly and efficiently. Strong growth rates, recurring revenue and customer retention were often sufficient to justify premium valuations. The “Rule of Thirty” rewarded rapid revenue growth in valuation terms even if that growth was at the expense of profits. This was because an underlying assumption of the market was that software in use represented a significant barrier to entry. A whole barrage of (now conventional) KPIs have been used by investors or acquirers to evaluate this “stickiness” and growth trajectory such as net churn, cost of customer acquisition and, of course, growth in Annual Recurring Revenue (ARR).

AI is beginning to change that assumption. It enables the cost and complexity of developing software to fall rapidly; tools powered by AI are allowing smaller teams to build products faster, as well as to write code more efficiently and launch new services at unprecedented speed. Potentially it permits businesses to solve their own problems using AI rather than to deploy third party software to solve them. The result is that software development threatens to become increasingly commoditised.

For years, software companies were able to create value by helping clients perform tasks more efficiently. AI is allowing software to perform those tasks on behalf of people. The distinction may sound subtle, but from an investment perspective it’s profound.

For example, a Customer Relationship Management (CRM) platform once helped sales professionals manage opportunities. Today, AI can identify prospects, draft emails, prepare notes and recommend actions to take. Similarly, where accounting software once organised financial information, AI can now interpret that information, identify anomalies and suggest decisions. At the hands of AI, software is evolving from a tool into a worker.

For many SaaS businesses, this is an uncomfortable situation, for if software can be built more easily and at a lower cost, the software itself becomes less valuable. In an environment where many of those businesses have historically been valued very highly this threatens “down rounds” or even the risk that the next round will not be forthcoming. The question facing investors is no longer whether a SaaS company is growing quickly, it’s whether that company remains relevant in a world where AI is becoming embedded into every application and over what period its relevance will be sustained.

The UK’s SaaS Mid-Market

Many of the UK’s most successful software businesses were built during the ‘race’ to use cloud software. At the time they developed loyal customer bases, strong recurring revenues and valuable market positions. In 2026, many of these businesses now find themselves caught between two competing situations;

On one hand, AI presents a huge opportunity. Businesses that are able to successfully integrate AI into development and thence into customer workflows may become more valuable than their competition.

On the other hand, AI is lowering barriers to entry at a pace few were able to predict.

Put simply, products that once took years to build can increasingly be replicated in the space of a few months and features that once differentiated software platforms can be reproduced through easily accessible AI models.

In other words, AI is both creating and destroying value at the same time.

For most of the last decade, success was measured by growth rates, customer acquisition and annual recurring revenue. Although these metrics remain important, they are no longer sufficient on their own. In 2026 investors want to understand who owns the data, who controls the workflow and who can create advantages AI can’t easily replicate. This is being translated into an appetite for the following key characteristics;

• Software which embeds specialist domain knowledge such as deep vertical expertise.
• Software which is integrated into customers’ workflows and systems and not just sitting over or alongside them
• Software which has already demonstrably secured a trusted status within a regulated or compliance oriented environment where untested/untrusted solutions are unlikely to be a threat
• Software which fulfils mission-critical functions within client businesses rather than being a “nice to have”
• Software where there is a demonstrable development road map which incorporates AI within the back end of the business and moving to customer front end offerings over a realistic time horizon.
• Software which enjoys direct access to customer data and the capacity to deploy that data (even if anonymously) to develop insights/provides a meaningful feedback loop.
• Software which can demonstrate a genuine customer return on investment.

However successful they have been to date, there is scepticism about the long term value of software which is horizontal, relatively undifferentiated and which doesn’t embed specialist understanding of a niche environment or vertical.

Conclusion

The decline in average SaaS valuations in the last couple of years reflects more than rising interest rates and changing market conditions. Instead, it signals a broader reassessment of what makes a software business valuable. For most of the last decade investors rewarded growth, recurring revenue and scalability. While these fundamentals remain important, the rapid adoption of AI is shifting the focus towards defensibility.

As software only becomes easier and cheaper to build, investors will increasingly ask what cannot be replicated. Proprietary data, ownership of critical workflows, industry expertise and customer trust are becoming more important than software functionality alone.

This is creating a growing divide across the SaaS market. Businesses that use AI to strengthen their competitive advantage are likely to command premium valuations and attract investor interest. While those whose products risk becoming commoditised may continue to face pressure on growth rates and valuation multiples. SaaS multiples still remain second only to AI in terms of sector multiples, after all their fundamentals remain attractive over a three to five year horizon, but we are likely to see those multiples increase for some and reduce for others, depending on their defensibility and the likely impact of AI on their long term performance.

The “cloud race” era rewarded companies for delivering software. The AI era is rewarding companies that deliver outcomes. For mid-market SaaS businesses in the UK, that distinction is likely to define valuation performance for years to come.

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