Rule of 40: How to assess your SaaS startup
The Rule of 40 has emerged as a popular framework for evaluating the financial performance of high-growth software-as-a-service (SaaS) companies.
What is the Rule of 40?
The Rule of 40 is a financial benchmark specifically designed for the SaaS industry. It states that a SaaS company’s combined revenue growth rate and profit margin should equal or exceed 40%.
For example:
If a SaaS firm has 30% revenue growth and a 10% profit margin, its Rule of 40 score is 40% (30% + 10% = 40%), meeting the benchmark.
This framework assesses both growth and profitability to provide a holistic view of overall business health.
Companies “passing” the Rule of 40 test tend to demonstrate an attractive balance of high expansion with solid cost and financial management.
Why the Rule of 40 is Important for SaaS Companies
The Rule of 40 rose to prominence because it addresses dynamics unique to SaaS company performance:
