The Rule of 40 says a healthy software company's revenue growth rate plus its profit margin (usually EBITDA or free cash flow margin) should add up to at least 40%. A company growing 30% with a 10% margin scores 40. In 2025 data from Aleph and Benchmarkit, the median SaaS company scored 25% and the top quartile 43%.
Key takeaways
- Rule of 40 score = revenue growth rate % + profit margin %.
- The 2025 median was 25%, up from 15% in 2024. Only the top quartile (43%+) cleared 40.
- It becomes meaningful at around $20M ARR. Below that, growth rate and unit economics matter more.
- For a gym or cafe, use the idea (balance growth and profit), not the number.
When I was writing the land and expand chapter of The Subscription Playbook, DocuSign's numbers jumped off the page.
In the first quarter of 2021, it grew 54%. In the same quarter, its operating margin had climbed to 29%, up from 11% in 2019.
Most companies can do one of those things. Grow fast, or make good money. DocuSign was doing both at once.
Add those two numbers together and you get 83. That's more than double the most famous benchmark in software investing: the Rule of 40.
What is the Rule of 40?
The Rule of 40 says that a healthy software company's growth rate plus its profit margin should add up to at least 40%.
It was popularized by investor Brad Feld in a 2015 blog post, after he heard it from a late-stage investor at a board meeting. His version was simple: "your growth rate + your profit should add up to 40%."
The idea is that growth and profit trade off against each other. You can spend heavily to grow fast and lose money. You can grow slowly and bank profit. Either is fine. But the combination should clear 40.
How do you calculate the Rule of 40?
Rule of 40 score = Revenue growth rate (%) + Profit margin (%)
- Growth rate: usually year-over-year growth in revenue or ARR. Feld used year-over-year MRR growth.
- Profit margin: usually EBITDA margin. Some investors prefer free cash flow margin, which is stricter. Pick one and stick with it.
Worked example: three companies, same score
| Company | Growth | EBITDA margin | Score |
|---|---|---|---|
| A: fast and burning | 55% | −15% | 40 |
| B: balanced | 25% | 15% | 40 |
| C: slow and profitable | 8% | 32% | 40 |
All three pass. But they're very different businesses. Company A needs investors who'll fund the losses. Company C may be a great cash machine that's quietly losing ground to competitors. Company B is the one most buyers want.
Now take Company D: 20% growth and −5% margin. Score: 15. It's burning cash and not growing fast enough to justify it.
The Rule of 40 doesn't tell you which strategy to pick. It tells you whether the strategy you've picked is working.
Rule of 40 CalculatorGrowth plus profit margin, scored.Open the free tool →What is a good Rule of 40 score in 2026?
40 is still the target. But very few companies hit it.
The 2026 Aleph and Benchmarkit SaaS & AI Performance Benchmarks (full-year 2025 data; 110 of 342 companies reported this metric) found:
| Group | Median Rule of 40 (2025) |
|---|---|
| All companies | 25% (up from 15% in 2024) |
| Top quartile | 43% or more |
| Bottom quartile | 7% (up from −4% in 2024) |
| Growing above 50% | 57% |
| Growing 31% to 50% | 8% |
| Growing under 10% | 19% |
Two things stand out.
First, the 10-point jump in 2025 came almost entirely from cost cutting, not faster growth. The median company cut R&D from 35% to 27% of revenue and sales and marketing from 37% to 35%, while growth slowed to a 20% median. A higher score from cutting isn't the same as a stronger business.
Second, the middle is the hardest place to be. Companies growing 31% to 50% had the lowest median score (8%), because getting to that growth rate costs a lot before it pays off.
Kyle Poyar's 2025 SaaS Benchmarks with High Alpha (more than 800 companies) adds a useful angle. Companies with high net revenue retention and fast CAC payback averaged a 47% Rule of 40 score. Companies with low NRR and slow payback averaged 5%. Retention and efficient acquisition are what make a high score possible.
Score your business on the Rule of 40
Enter growth and margin, and the free Rule of 40 Calculator scores you against 2025 benchmarks.
Is the Rule of 40 still relevant?
Yes, for the right businesses. Investors still use it, and it shows up in nearly every SaaS valuation discussion. The valuation multiples guide explains how growth and margin feed into the price buyers pay.
But I want to be honest about where it doesn't fit.
It's noisy for small companies
Aleph and Benchmarkit say the metric only becomes meaningful at roughly $20M ARR and above. Below that, one big customer can swing your growth rate by 20 points. If you're at $2M ARR, focus on growth, gross margin and payback instead.
It's the wrong tool for a gym or a cafe
A gym that grows revenue 8% a year with an 18% EBITDA margin scores 26. Is that bad? Not at all. It may be an excellent local business. The Rule of 40 was built for venture-funded software, where investors are paying for growth.
For a small subscription business, borrow the idea instead: every dollar you spend on growth should be judged against what it does to profit. If you're running heavy promotions that add members but wipe out your margin, you're making the same trade a software company makes. Just make sure it's deliberate.
It can be gamed
Cut marketing to zero and your margin jumps, so your score rises, right up until growth collapses. Aleph and Benchmarkit put it plainly: don't optimize the score directly.
How does pricing affect the Rule of 40?
Your pricing model shows up in the score. Aleph and Benchmarkit found hybrid subscription-plus-usage companies had the highest 75th-percentile score at 43%. That fits what I wrote in Chapter 4: usage-based pricing paired with a subscription base gives you predictable revenue and room to expand. Non-seat subscription companies trailed at an 18% median.
It also links to land and expand (Chapter 7). Companies that land small and expand get growth from existing customers, which is far cheaper than winning new ones. Cheaper growth means a better margin at the same growth rate, which means a higher score. DocuSign, with its 125% net dollar retention at the time, is the textbook example.
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What are the common Rule of 40 mistakes?
- Mixing margin definitions. EBITDA one quarter, free cash flow the next.
- Using a single quarter. Use trailing 12 months for both growth and margin.
- Comparing at the wrong size. A $3M company scoring 15 isn't comparable with a $300M company scoring 15.
- Treating 40 as a pass mark at any cost. A score from cuts can hide a weakening business.
- Ignoring cash. Pair it with burn multiple if you're losing money.
What should you do next?
- Calculate trailing 12-month revenue growth.
- Calculate trailing 12-month EBITDA margin.
- Add them up and write the score down.
- Then split it: is your score coming mostly from growth or mostly from profit? Is that the business you want to be?
If you're thinking about raising money or selling, run your numbers through the valuation estimator too. Growth and margin are two of the biggest inputs a buyer will look at.
Frequently asked questions
Who came up with the Rule of 40?
It was popularized by investor Brad Feld in a February 2015 post, 'The Rule of 40% For a Healthy SaaS Company.' He said he first heard it from a late-stage investor at a board meeting, and he described it simply: your growth rate plus your profit should add up to 40%. He used year-over-year MRR growth and preferred EBITDA as the profit measure.
Should I use EBITDA or free cash flow margin?
Either works if you're consistent. EBITDA margin is the most common basis for published benchmarks. Free cash flow margin is stricter and increasingly preferred by late-stage investors because it captures cash actually generated. The 2026 Aleph and Benchmarkit report warns that comparing a free cash flow score with an EBITDA-based benchmark is the most common way the comparison gets distorted.
Can a company score above 40 and still be in trouble?
Yes. A business growing 60% while losing 15% scores 45, but if it has six months of cash left, the score won't save it. Equally, a business growing 2% with a 40% margin scores 42 and may be slowly shrinking in relevance. The rule describes balance, not survival. Check cash runway and retention alongside it.
Does the Rule of 40 apply to AI companies?
It's used, but with care. Many AI-native companies are growing so fast that the growth half carries the score even with weak margins. Aleph and Benchmarkit found companies growing above 50% had a median score of 57. Watch gross margin closely, because low AI margins can make the profit half hard to fix later.
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Robert Coorey, MBA
Robert is the author of The Subscription Playbook and Feed a Starving Crowd and a Director at BPAG Accountants in Sydney. More about Robert.
Sources
- Brad Feld, The Rule of 40% For a Healthy SaaS Company (3 Feb 2015)
- Aleph and Benchmarkit, Rule of 40: what's a good SaaS score in 2026? (2025 data)
- Kyle Poyar, Growth Unhinged: the 2025 SaaS Benchmarks report with High Alpha (Nov 2025)
- The Subscription Playbook, Robert Coorey (2022), Chapter 7
Facts and prices checked 27 October 2026. Spotted something out of date? Tell us.