The Skinny On...

We’re talking about the bloodbath in tech stocks and why it’s bleeding into private credit markets, plus Elon Musk’s latest shenanigans in the M&A space.

— Jen & Kristen

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What is the SaaSpocalypse?

You’ve seen the headlines. It’s been a bad week for the tech sector. So what’s going on? Is this the long-awaited bursting of the AI-bubble? Or is this, in fact, the logical outcome of AI development thus far?  Let’s discuss.

When we talked about the early returns on tech earnings last week, there was one notable anomaly: Microsoft. Microsoft beat earnings expectations, yet immediately got clobbered in the markets. Their massive one day value loss seemed to embody a new concern on investors’ minds, best summed up as “how much are you guys going to spend on this stuff before there’s an incremental return on investment?” And when a stalwart performer like Microsoft (a product basically every business uses in one way or another already) is being judged on whether cloud growth and AI monetization can outrun rising capex, it’s indicative of fragility across the entire sector. After all, “show me the money” is something very few AI-forward companies can do right now.

But in the aftermath of that drubbing, a bigger philosophical question seems to have emerged. Not “when is all this AI spend going to finally pay off?”, but “if and when it does, what does that mean for the future of the companies behind it?” 

Case in point: Anthropic’s release of Claude Opus 4.6 this week. Claude is being hailed as a development that not only eliminates much of the tedium of day to day white collar work, but also displaces the offerings of the world’s biggest software-as-a-service (SaaS) companies. And let’s not forget the moltbook incident, where AI agents are apparently creating no-humans-allowed forums for communication 😳.

As your resident anti-AI gal, I’m experiencing minor schadenfreude seeing how surprised software developers are to find that the “shovels” they’ve built have, in fact, dug their own graves first. 

So now, what started as company-specific concerns has turned into sector-wide stress. Go back in your time machine to 2010 and tell everyone that you’re worried Microsoft Office or Salesforce might get replaced. They’ll look at you like you have two heads. But it seems the market is now thoroughly questioning the longevity of previously unshakable core enterprise software businesses. That high quality, recurring revenue stream is being perceived less like a coupon clipping business and more like a business under siege. 

That’s why this selloff has spilled beyond the equity markets into the credit markets: cash flow uncertainty. 

According to Bloomberg, “more than $17.7bn of US tech company loans…dropped to distressed trading levels during the past four weeks…the most since October 2022…dominated by firms in software-as-a-service, or SaaS, an industry seen as particularly vulnerable because AI is supplanting tasks like writing code and analyzing data.” 

Even more interesting is the fact that the “SaaSpocalypse” extends beyond the public markets to private markets as well. Private credit has high exposure to Saas because it was one of the easiest business models to lend against in a zero interest rate environment (read: 2020-2021).

Unlike early-stage AI ventures that were largely dependent on future breakthroughs, SaaS businesses had recurring revenue streams that appeared more predictable, making loans therefore easier to underwrite. Think about it: if you have a steady stream of cash flows, you’re a much better candidate for a loan than someone making big expenditures on an idea that may or may not hit it big. For startups, after sourcing equity early through venture capital funds awash with cash, growing SaaS companies easily turned to venture debt, growth debt, and private loans to extend their financing runway without diluting equity investors. More mature SaaS companies have been the subject of LBOs thanks to that same stream of steady cash flows, issuing in the leveraged loan market to fund those deals. And those loans are the ones that are now marking down to distressed levels.

According to that same article, “about 14% of assets in the loan market are exposed to technology. In private credit, it’s about 20%.” Private credit is overweight the sector and is therefore feeling the pain in an outsized way. But the question is whether this panic and sell off is justified.

On the equity side of things, the correction is simple math. For the past twenty years, SaaS companies were the market’s darlings. Recurring revenue streams justified premium multiples in a way that non-recurring businesses didn’t. The problem now is that the “recurring” part may not be as durable as investors once assumed, which has led to a multiple collapse. But what about private credit? How much trouble are the lenders to these companies really in?

The question isn’t if earnings come under pressure, but when. This won’t happen overnight. You’re not just going to flip a switch and replace Microsoft Excel with Claude tomorrow because of one successful demo.

Take the Yellow Pages: an ancient document from the (gasp!) 1990s that we once used to look up phone numbers and addresses before the internet was ubiquitous. Defying all odds, the Yellow Pages didn’t actually stop printing until 2019. Business model decay is usually slow, not sudden.

So the question then is whether earnings and cash flows deteriorate before lenders get repaid. That’s not a simple question to answer and will be highly company-specific, depending on the actual product, customer stickiness, and — critically — the level of leverage on the balance sheet.

It also cannot be overstated how slow and fragmented adoption of even the best technology can be. Which means, these revenue streams are likely still quite sticky. It also could be many of these legacy software names are the biggest beneficiaries of AI technology if they can integrate it into their pre-existing subscription base seamlessly.

Amidst this backdrop, investors are moving money out of tech and into markets that seem to be less vulnerable. One of the main beneficiaries? Financials. Bank and insurance stocks are outperforming as capital rotates out of tech and into more “stable” areas. Again, where’s my trusty time machine? Dear reader, may I remind you that much of the narrative for bullishness on financials A MERE MONTH AGO stemmed from deal flow IN THE TECH SPACE. Creative financing deals to facilitate AI expansion, M&A activity, related hedges, IPOs, etc were one of the key tailwinds we discussed less than a month ago bolstering the banking sector. How quickly they forget…

So, where does this leave us? I’m no historian, but when markets are this bearish in February (February seasonals aren’t particularly stellar in the best of years), in a year with both midterm elections and a newly appointed Fed chair…risk assets might want to buckle up.

Elon Musk and the Art of Not Taking the L

Last March, we talked about Elon Musk’s X (the artist formerly known as Twitter) / xAI merger, and why the headline valuation didn’t really matter. The deal was all stock, both companies were private, and Elon had majority ownership in both companies. Valuation wasn’t about discovering “true” value, it was about setting relative ownership and, just as importantly, avoiding an embarrassing write-down.

At the time, xAI was valued at roughly $80bn, based on recent funding rounds — rounds Elon himself participated in, meaning he helped set the price. X, meanwhile, was valued at exactly the same FIRM value Elon paid when he bought Twitter in 2022.

That might sound strange, since the original Twitter headlines screamed $44bn. But that number was the enterprise value, not the equity value. To complete the acquisition, Elon loaded the business with roughly $12bn of debt, meaning the equity he actually put in was closer to $33bn.

And when xAI acquired X, he used that same $33bn equity value again.

We don’t think that $33bn number was an accident. It was chosen to prevent him from having to take the L (despite the fact that other investors, like Fidelity’s Blue Chip Growth Fund, had marked the investment down by 80%). By structuring the deal as an all-stock transaction and pricing it at the equity level, no cash changed hands, existing xAI investors absorbed the dilution, and no one had to publicly acknowledge that X might be worth less than what he paid. It also didn’t hurt that a lot of the investors in X were also invested in xAI.

Elon’s newest SpaceX x xAI merger is similar. Only this time, the numbers are bigger.

The Deal, at a High Level

SpaceX and xAI are merging in another mostly all-stock transaction.

The key term is the exchange ratio:

• xAI investors receive 0.1433 shares of SpaceX for every xAI share they own

• Or, more intuitively: 7 shares of xAI get you 1 share of SpaceX

That ratio, not the headline valuation, is what matters. So where did those numbers come from for these two private companies?

According to the FT:

• SpaceX was valued at $1 trillion in the transaction

  • Up from an $800bn valuation in a recent secondary sale

  • Per the FT “Musk marked up the private valuation citing increases in revenue from its Starlink satellite broadband services.”

• xAI was valued at $250bn

  • Just weeks earlier, xAI completed a $20bn funding round at a $230bn valuation…where the extra $20bn came from? Who knows!

  • This is up sharply from roughly $113bn less than a year ago, when the X–xAI deal happened

Now what is almost more interesting is TIMING. Usually, companies go public so that their public equity can be used as acquisition currency. And SpaceX is expected to go public June 9^th (officially because of alignments of the planets, but doubt it’s lost on anyone the date he chose is also 6/9) which is just FOUR months away. There is also a rumor that Musk is exploring an acquisition of Tesla ahead of the IPO. So again, the question is: why now?

Officially? The stated reason is Musk wants to build data centers in space. 

The more cynical take? Musk needs the cash flows from SpaceX to help with the cash burn from xAI. We know all the big AI companies are churning through cash, some (including xAI) have begun raising debt to finance the cash needs, others like Microsoft have been able to continue to fund through operations. It also gives the now-combined SpaceX a higher valuation for its IPO.

The Bigger Point

Regardless, just like the X–xAI merger, this deal isn’t really about whether xAI is “worth” $250bn or whether SpaceX is “worth” $1 trillion. Ultimately, during the IPO investors will decide what they believe the company is worth. It will be interesting to see if combining all these companies (and eventually possibly even Tesla) helps or possibly hurts the valuation. There is the concept of a “conglomerate discount”, but at the end of the day, things often work differently when Musk is involved.

That problem eventually lands with public investors — likely in a SpaceX IPO, whenever Elon decides the time (and the planets) are right.