Rule of 40

What is the Rule of 40?

The Rule of 40 states that a healthy SaaS company's growth rate plus profit margin should equal or exceed 40%. It's a balancing test that allows for different strategies while ensuring overall efficiency.

A company growing 50% with -10% margins scores 40. A company growing 20% with 20% margins also scores 40. Both are considered healthy by this benchmark.

Why the Rule of 40 Matters

The Rule of 40 acknowledges that growth and profitability are trade-offs. Young companies sacrifice profits for growth. Mature companies sacrifice growth for profits. This metric lets you compare them fairly.

Investors use it as a quick health check. Companies consistently above 40 command premium valuations. Those below 40 face harder questions about their path to efficiency.

Rule of 40 Benchmarks

Below 20: Struggling. Neither growing fast nor profitable. 20-40: Acceptable. Room for improvement. 40-60: Healthy. Well-balanced business. Above 60: Elite. Top-tier SaaS performance.

Company A (Growth-focused):

• Revenue growth: 60%
• Profit margin: -15%
• Rule of 40 score: 60 + (-15) = 45 ✓

Company B (Profitable):

• Revenue growth: 20%
• Profit margin: 25%
• Rule of 40 score: 20 + 25 = 45 ✓

Both pass. Different strategies, same efficiency outcome.