This weekend I was doing research on X about public software companies. I wanted to understand the lens other investors are looking through to view these companies in the age of AI. I found some interesting posts, and one from Tim Liu, founder of Meditation Capital Management, particularly caught my attention. He linked to his fund’s Q2 letter, which focused exclusively on the lens he uses for investing in (and avoiding) software companies. See the post here and the link to the letter here.

He makes some good points, and his framework for evaluating software was interesting. I noticed that software stocks are trading as a “basket” (i.e., they’re correlated and they move together), but I found that the stocks in that basket are very different. The companies all sell software, but they serve different types of customers (enterprise vs. SMBs) and solve different problems (e.g., marketing vs. financial reporting). I think this basket approach the stock market is taking to valuing software companies will provide an opportunity to savvy investors who do the work to understand which companies in these baskets are unique and will thrive in the age of AI instead of being displaced by AI.

The part I found most useful was his framework for thinking about how AI will impact software. A lot of his thinking is logical, but I disagree with his view that customers will rebuild and customize core software that’s key to their business operations. Some will, but the majority, especially SMBs, won’t. As I shared in this post, rebuilding and maintaining a critical system is a heavy lift that carries a ton of risk. Many companies can get a better return on the time, energy, and cost required to build a system from scratch. I think a more likely path is that companies will create apps to handle niche use cases (like specific processes) and integrate those apps into their off-the-shelf, mission-critical systems (i.e., pump the data back into the system of record). This will allow them to use their domain expertise to solve the problem in the way they see fit while avoiding a mammoth allocation of resources to build and maintain a new system.

Overall, I enjoyed Tim’s letter, and it’s a great read for anyone curious about how institutional public market investors are evaluating investment in SaaS companies in the age of AI.