Midmarket software companies must quickly pivot away from traditional SaaS models or risk losing ground to AI-powered startups, according to a new study from consulting firm AlixPartners that was released on Monday. The report found that both growth and customer retention have slowed significantly in the past few years, largely due to the rapid advancement of AI.
The report says that more than 100 mid market software companies are caught in a “pressure cooker” of AI model development, but declined to name specific firms. “We believe many mid-size enterprise software companies will face threats to their survival over the next 24 months,” AlixPartners said.
Stuck in the middle of the AI arms race
Midsize software firms are being encroached upon from both sides, in what the report described as a “big squeeze.”
On one side, fast-moving AI startups are using artificial intelligence to develop new applications far more rapidly than traditional software companies.
On the other, tech giants such as OpenAI and Microsoft are investing billions in proprietary AI tools — a level of spending that smaller companies simply can’t match. AI tools also tend to be more expensive to develop than legacy software, further cutting into the profit margins of smaller SaaS firms.
Larger enterprise software providers can also bundle AI apps and tools together with other features at a lower overall costs, thanks to economies of scale created by huge user bases. In contrast, smaller software firms continue to rely on traditional per-seat pricing models, which tend to be more costly for customers.
Suggested changes to keep up with the AI boom
To reach these conclusions, the study investigated 122 publicly listed software companies with annual revenue below $10 billion. The study found that sales growth had slowed in the past couple years: only 39% of this group met the bar for high-growth companies in 2024, down from 57% in 2023. Analysts expect this number to decline further, down to 27%, in 2025.
The median net dollar retention rate also dropped, which signals that customer retention is declining. These companies had a median NDR rate of 120% back in 2021, but this declined to 108% in the third quarter of 2024.
Of the companies surveyed, half expect to make significant changes to their business models in the next year in order to keep up with the rapid changes caused by the ongoing AI boom. Solutions recommended by the report include building AI agents as core products, switching to outcome-based pricing models, and considering mergers or acquisitions.
