In today’s fast-paced and competitive environment, businesses across industries face unprecedented pressure to evolve. Technology is driving new operating methods, customer expectations are rapidly shifting, and traditional business models are being reimagined to keep pace. As we reflect on the current venture capital (VC) investing landscape, the trends driving this change provide essential clues for where the industry might be headed, especially moving into 2025.

However, these shifts don’t exist in isolation. The UK’s broader economic environment plays a pivotal role in shaping business and investment decisions, and understanding this context is critical for anticipating the direction of VC investment.

UK Economic Outlook: Mixed Signals for Growth and Investment

According to KPMG’s UK Economic Outlook for September 2024, the UK economy is expected to experience muted growth. GDP will rise by just 1.0% in 2024 and improve slightly to 1.2% in 2025. While this indicates some recovery, it highlights ongoing structural challenges, including a slow path to stabilisation and cautious monetary policy.

Although inflation could fall below 2% by the end of 2024, it's projected to peak again at 3% in early 2025, fuelled by persistent high services inflation and rising energy prices. The Bank of England’s approach to easing interest rates is expected to be gradual, with rates likely to remain higher than the US and the Eurozone. This suggests businesses and investors will face a prolonged period of elevated borrowing costs.

Despite these headwinds, there are reasons for cautious optimism. KPMG’s report notes that business investment could recover in 2025 if geopolitical uncertainties ease and lower interest rates give firms the confidence to commit to their investment plans. For VCs, this is a crucial indicator. As the cost of capital slowly decreases and uncertainty diminishes, we may see a resurgence in investment activity, particularly in sectors like technology and SaaS, where innovation is a key growth driver.

The Shift From Products to Services

One of the most significant transformations in recent years has been the shift from selling products to offering services. The rise of Software as a Service (SaaS) exemplifies how companies are embracing recurring revenue models over one-off sales. This shift is seen in SaaS and across industries, from automotive to retail, as businesses adapt to new consumer preferences for flexibility and convenience.

Despite the economic backdrop, SaaS companies have shown resilience. SaaS Capital’s 2024 report indicates that while growth has slowed (with median rates falling to 30% from 35% in 2022), most SaaS businesses continue to post positive growth. This is a testament to the robustness of service-based models, which provide predictable revenue streams and allow firms to remain adaptable in uncertain economic conditions.

A newer trend emerging within the SaaS space is Value as a Service (VaaS). This model, driven by artificial intelligence (AI), focuses on pricing based on the value provided to the customer rather than traditional subscription fees. By leveraging AI, companies can tailor pricing to better align with customer outcomes, leading to increased retention and potentially higher revenues. As businesses seek more sustainable and customer-centric models, VaaS represents a key innovation that could reshape SaaS pricing strategies.

Data as the New Currency

In this evolving landscape, data has become one of the most valuable assets for businesses. Companies that effectively harness data to personalise customer experiences, optimise operations, and predict trends are gaining a significant competitive edge.

SaaS companies have long been leaders in using data to drive growth, mainly through metrics like net revenue retention (NRR). SaaS businesses with higher NRR (over 100%) consistently outperform in growth, as they can retain customers and upsell services. This data-driven approach is not limited to SaaS—industries across the board leverage data to enhance their business models.

From an economic standpoint, using data effectively becomes even more critical in a slow-growth environment. As the UK economy faces sluggish GDP growth, businesses will need to find efficiencies and new revenue streams, and data will be vital in unlocking these opportunities.

The Rise of Sustainability-Driven Models

Sustainability is another major trend shaping the future of business models. In the UK, sustainability is not just a corporate responsibility; it’s becoming a core business strategy. Businesses increasingly incorporate environmental, social, and governance (ESG) criteria into their operations, recognising that long-term success will depend on their ability to align with the shift towards greener economies.

KPMG’s outlook suggests that structural factors, including weak productivity, challenge the UK’s long-term growth prospects. However, companies that invest in sustainable business practices may be better positioned to drive growth in this low-productivity environment. For instance, adopting circular economy principles—where products are designed for longevity and waste is minimised—can lead to significant cost savings and efficiency gains.

For VCs, sustainability presents a dual opportunity: it allows them to invest in businesses that are future proofing their operations while also appealing to a growing segment of environmentally conscious consumers and investors.

Collaboration and Ecosystem-Based Models

As businesses evolve, collaboration and ecosystems are central to their success. Companies are increasingly partnering with others to create integrated solutions and share resources in today's interconnected world. This is particularly evident in sectors like technology and automotive, where ecosystem-based models enable businesses to innovate faster and offer more comprehensive services.

For investors, this trend highlights the importance of looking for companies that are part of strong networks and capable of leveraging partnerships to drive growth. In the current economic climate, where uncertainty prevails, businesses that can draw on the strengths of others are likely to be more resilient and adaptable.

Adapting for the Future

As we move into 2025, the UK’s economic outlook remains a mix of challenges and opportunities. Slow growth, elevated inflation, and cautious monetary policy will likely weigh on business and consumer confidence in the short term. However, the trends driving the evolution of business models—such as the shift towards services, the increasing importance of data, the rise of sustainability, and the move towards ecosystem-based collaboration—offer significant opportunities for businesses and investors alike.

For VCs, the key will be to identify businesses that adapt to these trends and are positioned to thrive in the changing economic landscape. As borrowing costs begin to ease and uncertainty diminishes, the sectors that have embraced these innovations will be well-placed to attract investment and deliver strong returns.

Have a great week!