Growth and profit pull against each other.
Spend hard on sales and marketing and you grow fast, but you lose money. Cut back and you bank profit, but growth slows. Both can be the right call. The Rule of 40 is a quick way to check whether the trade-off you've chosen is actually working.
Investor Brad Feld popularized it in 2015: "your growth rate + your profit should add up to 40%." It started in software, but I find it a useful sense check for any subscription business that's choosing between growth and profit.
How to use the Rule of 40 calculator
- Enter your revenue growth rate over the last 12 months. Revenue or ARR growth both work. Pick one and stick with it.
- Enter your profit margin: EBITDA margin is the usual choice, free cash flow margin is stricter. Use a negative number if you're losing money.
- Don't have the percentages? Open "work out the percentages from your accounts" and enter revenue for the last two years and your EBITDA or free cash flow.
- Drag the sliders to test a plan. What happens if you cut marketing and growth slows? What if a price rise lifts margin?
How the maths works
Rule of 40 score = Revenue growth rate (%) + Profit margin (%) Growth rate = (Revenue this year ÷ Revenue last year) − 1 Profit margin = EBITDA (or free cash flow) ÷ Revenue this year
The chart plots growth against margin. The diagonal line is every combination that adds up to 40. Anything above it passes.
A worked example
The calculator opens with a business whose revenue grew from $1.6 million to $2.0 million, so 25% growth. EBITDA was $200,000, a 10% margin.
Score: 25 + 10 = 35. Five points short.
To close the gap it could grow 30% at the same margin, hold growth and lift margin to 15%, or some mix of the two. Three very different plans, all landing on 40. Here's how three different companies can share a score:
| Company | Growth | EBITDA margin | Score |
|---|---|---|---|
| Fast and burning | 55% | −15% | 40 |
| Balanced | 25% | 15% | 40 |
| Slow and profitable | 8% | 32% | 40 |
What good looks like
Forty is the target, but few companies hit it. Our Rule of 40 guide reports the Aleph and Benchmarkit SaaS and AI Performance Benchmarks for full-year 2025: a median score of 25, a top quartile of 43 or more, and a bottom quartile of 7. Companies growing above 50% had a median of 57, while those growing 31% to 50% had just 8, because reaching that growth costs a lot before it pays off.
The score shows up in valuations too. In our analysis of the SaaS Capital Index for September 2026, public companies scoring under 20 traded at a median 2.8x revenue, against 5.6x for those scoring 20 to 40. The full data is in SaaS valuation multiples in 2026.
One warning. The 2025 jump in median scores came mostly from cost cutting, not faster growth. A higher score from cutting isn't always a stronger business.
What to do next
- Read the full guide to the Rule of 40, including when it doesn't apply.
- If you're burning cash to grow, check your burn multiple too.
- See what your score does to your value in the Subscription Business Valuation Estimator.
- Compare the rest of your numbers with our 2026 subscription benchmarks.
Frequently asked questions
Should I use EBITDA or free cash flow for the Rule of 40?
Either, as long as you're consistent. EBITDA margin is the most common choice and is easy to pull from your profit and loss statement. Free cash flow margin is stricter because it includes capital spending and changes in working capital, so many investors prefer it. If you report your score to investors or a buyer, say which margin you used.
Does the Rule of 40 apply to small businesses?
It's designed for software companies past the early stage, usually above about $1 million in revenue. Very young companies can grow 200% from a tiny base, which makes the score meaningless. For a small, profitable service or membership business, it's still a useful sense check on whether you're balancing growth and profit, but don't treat 40 as a pass mark.
What growth rate should I use?
Use year-on-year growth in revenue or ARR over the last 12 months. ARR growth is better if you have a lot of one-off revenue, because the rule is really about the recurring business. Avoid using a single great month annualized, and don't mix a forward-looking growth forecast with a backward-looking margin.
Can a company with negative profit pass the Rule of 40?
Yes. A company growing 60% a year with a −15% margin scores 45 and passes. That's the point of the rule: losses are acceptable if growth is fast enough to justify them. The risk is that growth slows faster than costs, so a fast-burning company needs a clear path to profit and enough cash to get there.
Built on The Subscription Playbook
This tool turns frameworks from Robert Coorey's book into something you can use in minutes. Robert is the author of The Subscription Playbook and a Director at BPAG Accountants. More about Robert.