AdvancedMetric 23 of 35

Rule of 40

Growth rate + profit margin should sum to ≥ 40%.

A back-of-napkin test for whether a SaaS company has balanced growth and profitability. Below 40 = either growing too slow or burning too hot. Above 40 = sustainable.

Formula

Rule of 40 = Growth Rate (%) + Profit Margin (%)

Worked example

ARR growth 60%, EBITDA margin −10% → Rule of 40 = 50. Healthy.

Illustrative comparisons

Rule of 40 scenarios

These unsourced ranges are illustrative scenarios, not measured industry benchmarks, percentiles or recommended targets. Their qualitative labels are editorial interpretations. Compare your own cohorts using the same segment, period, currency and measurement basis.

Elite

> 60

Sustainable

40–60

Subscale

< 30

Why it matters

Originally a public-market test, now used in private SaaS as a sanity check. Investors prefer 60% growth at −20% margin over 25% growth at +15% margin — both score 40, but the first is a venture-scale outcome and the second is a lifestyle business. Use Rule of 40 to direct capital allocation, not to score yourself.

Common mistakes

Using gross margin instead of EBITDA or FCF margin — wrong denominator, wrong signal.
Applying to companies with < $1M ARR (the metric is noisy at small scale).

See Rule of 40 in FlowMRR