The first half of 2023 has seen a dramatic shift in the software industry, with generative artificial intelligence (AI) becoming a central focus. Notably, a Bain survey revealed that an overwhelming 89% of software companies are integrating AI into their products, a trend significantly higher than in other sectors. This widespread adoption underscores the potential for AI to reshape the industry, offering both opportunities and challenges to software vendors.

Strategic Implications for Software Companies

The proliferation of generative AI brings about several key considerations for software companies:

• Redefining User Interaction: Generative AI is transforming how users interact with software, moving away from traditional interfaces to more natural, chat-based interactions.
• Functionality Enhancement: Companies expect AI to bring a step-change in software functionality. However, there’s also a (high) risk that AI tools will enable customers to develop their own software solutions, potentially bypassing traditional vendors, and creating a hell on earth version of shadow IT.
• Business Model Reassessment: With AI potentially reducing the need for certain job roles, companies that rely on per-seat pricing models will need to rethink their strategies – 2,000 seats to 200 seats is more than a revenue inconvenience.

AI’s Dual Role in Innovation and Competition

Generative AI is not just an innovation enabler but also a competitive differentiator. Companies are racing to integrate AI into their products to enhance top-line growth and customer retention. However, this rapid integration also poses existential threats to certain software categories, especially in areas like low-code development and customer experience management. Companies who depend on traditional technologies for their products in those categories will be quickly out of business.

Vertical vs. Horizontal Software Vendors

The AI revolution is particularly challenging for vertical software vendors who have traditionally relied on process expertise. With horizontal software vendors now able to leverage AI for industry-specific features, the competitive landscape is shifting, necessitating vertical vendors to adapt swiftly, or perish. Who needs expensive pro-serve process experts when it is all included in the software? Energy, Automotive, Wastewater, whatever – OT vendors are particularly vulnerable.

Key Decisions for Software Makers

Software companies are at a crossroads, needing to make critical decisions about AI integration:

• Differentiation Strategy: Deciding whether to build proprietary AI models or leverage third-party solutions.
• R&D and Productivity: Assessing how AI can accelerate innovation and customization.
• Pricing and Packaging: Determining how to monetize AI enhancements, whether as separate products, add-ons, or embedded features.

Navigating Generative AI’s Impact

As generative AI reshapes and up-ends the software industry, companies must embrace this change to stay relevant. Understanding how customers reengineer their processes around AI will be crucial for software makers to architect and differentiate their AI solutions effectively. Companies who wait for new categories to be built will perish. Those who create them will thrive. The decisions made today will define the future trajectory of software vendors in an AI-dominated landscape.