The Rule of 40 adds a revenue growth rate to a profit margin. A sum of 40% or more is the screen Bessemer publishes for a software business.
Bessemer Venture Partners writes the rule in The Rule of X as the sum of revenue growth and profit margin, and treats 40% or more as the common published screen. FDIC Money Smart’s profit and loss module writes profit margin as profit divided by revenue. The SEC’s beginners’ guide to financial statements is the income statement those rates come from: sales, expenses, and what is left.
The Rule of 40 calculator adds the two rates you type:
Rule of 40 score = revenue growth rate + profit margin
Gap to 40 = 40 − that sum
A negative gap means the sum is above 40. A positive gap is how many points are left to reach it. Zero means the sum is 40.
Rule of 40 adds a point of growth and a point of margin as the same point. Example 7 is two companies that both score 40%, one from growth and one from margin. Pick one profit line and keep it. Operating profit and net profit are different margins. Mixing them moves the sum.
Recurring revenue for one month, times 12, is the MRR post. A compound rate between a start value and an end value is the CAGR post. Profit divided by revenue, without the growth add-on, is the net profit post.
These examples add the rates you type.
Fig 1
Two rates, one sum
The gap is 40 minus that sum
Add the growth rate to the profit margin. Subtract the sum from 40 to see the gap.
Where the two rates come from
Growth, for a year against the prior year, is the change in revenue divided by the prior revenue. Margin, on the FDIC line, is profit divided by this year’s revenue. You bring both rates to the page. Example 1 shows the dollars behind the default percents.
Use the same period on both rates. Example 6 types a one-month growth rate, and then the mistake of multiplying that month by 12.
Example 1: the calculator defaults
Inputs:
- revenue growth: 25%
- profit margin: 18%
Score: 25 + 18 = 43%
Gap to 40: 40 − 43 = −3%
Calculator result
SaaS rule of 40
- Revenue growth rate
- 25%
- Profit margin
- 18%
43%
rule of 40 score
- Revenue growth
- 25%
- Profit margin
- 18%
- Gap to 40
- -3%
The sum clears the published screen by 3 points. The negative gap is that clearance. The label on the page is “rule of 40 score” once the sum is 40 or more.
The dollars that produce these two rates:
Last year revenue $960,000. This year revenue $1,200,000. Profit $216,000.
Growth: (1,200,000 − 960,000) ÷ 960,000 = 240,000 ÷ 960,000 = 25%
Margin: 216,000 ÷ 1,200,000 = 18%
Score: 25 + 18 = 43%
Same inputs, now tied to a year of revenue. If the $216,000 is operating profit, say so. If it is profit after tax, the 18% is a net margin. The operating margin post is the line before tax. Do not add a growth rate measured on recurring revenue to a margin measured on a different sales total.
Example 2: a sum that lands on 40
Inputs: growth 22%, margin 18%.
Score: 22 + 18 = 40%
Gap: 40 − 40 = 0%
The screen is met, with nothing extra. One point less of growth, or one point less of margin, and the sum is 39%, which the page labels as below the published 40 screen. The gap would be 1%.
Example 3: below the screen
Inputs: growth 15%, margin 8%.
Score: 15 + 8 = 23%
Gap: 40 − 23 = 17%
Calculator result
SaaS rule of 40
- Revenue growth rate
- 15%
- Profit margin
- 8%
23%
below the published 40 screen
- Revenue growth
- 15%
- Profit margin
- 8%
- Gap to 40
- 17%
Seventeen points short. Closing the gap takes 17 points from growth, from margin, or from both together. A shop at 15% growth would need a 25% margin to hit 40, because 15 + 25 = 40. A shop at an 8% margin would need 32% growth, because 32 + 8 = 40.
Example 4: growth carries a loss
This year revenue $1,550,000. Last year $1,000,000. Profit −$124,000.
Growth: (1,550,000 − 1,000,000) ÷ 1,000,000 = 55%
Margin: −124,000 ÷ 1,550,000 = −8%
Score: 55 + (−8) = 47%
Gap: 40 − 47 = −7%
Calculator result
SaaS rule of 40
- Revenue growth rate
- 55%
- Profit margin
- -8%
47%
rule of 40 score
- Revenue growth
- 55%
- Profit margin
- -8%
- Gap to 40
- -7%
The margin is a loss and the sum is still 7 points above the screen. Bessemer’s published line is the sum, so a loss-making grower can clear it. Example 1 cleared the screen with an 18% profit. This one cleared it while losing $124,000. The page adds the two rates, loss included.
Example 5: what if growth slows by 10 points
Hold Example 1’s 18% margin. Change growth from 25% to 15%.
Score: 15 + 18 = 33%
Gap: 40 − 33 = 7%
The sum falls from 43% to 33%. It crosses under 40. The whole move is the 10 points of growth: 43 − 10 = 33. Margin did not change. The gap goes from 3 points above the screen to 7 points below it. 3 + 7 = 10, the same 10 points.
A step-down of growth with the margin held at 18%:
| Growth | Margin | Score | Gap to 40 |
|---|---|---|---|
| 40% | 18% | 58% | −18% |
| 30% | 18% | 48% | −8% |
| 25% | 18% | 43% | −3% |
| 20% | 18% | 38% | 2% |
| 15% | 18% | 33% | 7% |
| 10% | 18% | 28% | 12% |
| 5% | 18% | 23% | 17% |
The score crosses 40 between 25% growth and 20% growth. At 22% growth, Example 2, it sits on 40.
Fig 2 · 1/7
Score as growth steps down
Profit margin stays 18%. Each point is growth plus 18.
Rule of 40 score
- Score
| Point | Score |
|---|---|
| 40% | 58% |
| 30% | 48% |
| 25% | 43% |
| 20% | 38% |
| 15% | 33% |
| 10% | 28% |
| 5% | 23% |
At 40% growth the score is 58%.
At 5% growth the score is 23%. The line crosses 40 between 25% and 20% growth.
Example 6: a month typed as if it were a year
This month’s revenue is $110,000. Last month was $100,000.
Month-over-month change: (110,000 − 100,000) ÷ 100,000 = 10%
Type that 10% next to an 18% margin.
Score: 10 + 18 = 28%
Gap: 40 − 28 = 12%
That 28% is a month of growth plus a margin. Bessemer’s published screen uses a yearly growth rate. Example 1’s 25% came from a full year, $960,000 to $1,200,000. A one-month margin next to a one-month growth rate is a monthly sum, and 40 is the yearly screen.
The slip is to multiply the month by 12 and type 120% growth with the same 18% margin.
Score: 120 + 18 = 138%
Gap: 40 − 138 = −98%
The page will add 120 and 18. A 10% month and a 120% year are different rates. The CAGR calculator is the rate across a span of years. For a single year, growth is (ending ÷ starting) − 1, which is what Example 1 already did. Leave a month times 12 out of the Rule of 40 box.
Example 7: the same 40 from two different mixes
Growth-heavy. Inputs: growth 35%, margin 5%.
Score: 35 + 5 = 40%
Gap: 0%
Margin-heavy. Inputs: growth 5%, margin 35%.
Score: 5 + 35 = 40%
Gap: 0%
Both clear the screen by the same zero gap. Growth is 35 ÷ 40 = 87.5% of the first score and 5 ÷ 40 = 12.5% of the second. The formula reports one number. The stack is the rest of the story. A 5% margin with 35% growth spends most of the screen on expansion. A 35% margin with 5% growth is a slower shop that keeps more of each revenue dollar.
Fig 3 · 1/2
Growth and margin inside the score
The stack is the Rule of 40 sum. Each pair uses one profit line.
Score
- Growth
- Margin
| Category | Growth | Margin |
|---|---|---|
| 25 + 18 | 25% | 18% |
| 35 + 5 | 35% | 5% |
| 5 + 35 | 5% | 35% |
| 15 + 8 | 15% | 8% |
| 60 + 10 | 60% | 10% |
25% growth and an 18% margin score 43%.
35 plus 5, and 5 plus 35, both land on 40%. The 60 plus 10 pair scores 70%.
Example 8: slow growth and a loss
This year revenue $1,080,000. Last year $1,000,000. Profit −$216,000.
Growth: (1,080,000 − 1,000,000) ÷ 1,000,000 = 8%
Margin: −216,000 ÷ 1,080,000 = −20%
Score: 8 + (−20) = −12%
Gap: 40 − (−12) = 52%
The sum is negative, so the distance to 40 is more than 40 points. Example 4 lost money too, and scored 47% because growth was 55%. Here growth is 8%. The loss is the larger piece. Reaching 40 from −12 takes 52 points of combined growth and margin, not 12.
Example 9: a one-off gain inside the margin
Last year revenue $1,000,000. This year $1,200,000.
Growth: (1,200,000 − 1,000,000) ÷ 1,000,000 = 20%
Operating profit $180,000. Margin: 180,000 ÷ 1,200,000 = 15%
Score: 20 + 15 = 35%
Gap: 40 − 35 = 5%
An equipment sale adds $60,000 to the profit you might type. Profit becomes 180,000 + 60,000 = $240,000. Margin: 240,000 ÷ 1,200,000 = 20%. Growth stays 20%, because revenue did not change.
Score: 20 + 20 = 40%
Gap: 0%
The operating picture is 5 points under the screen. The equipment gain is the entire 5 points, and it puts the sum on 40. Next year the gain is gone. If operating profit is still $180,000 on a flat $1,200,000, the margin goes back to 15% and, with 0% growth, the score is 15%. Take the gain out when you want the operating picture. The page will use the margin you type.
Example 10: far above the screen
Inputs: growth 60%, margin 10%.
Score: 60 + 10 = 70%
Gap: 40 − 70 = −30%
Thirty points above the published line. Growth is 60 ÷ 70 of the score. The margin is the other 10 points. Compare this with Example 3’s 23% before you treat every software company as one kind of business. The same addition produces both.
Fig 4 · 1/5
Five scores against the same 40
Each bar is growth plus the margin you type.
Rule of 40 score
25 and 18
43%
22 and 18
40%
15 and 8
23%
55 and -8
47%
60 and 10
70%
The defaults score 43%.
The loss-making grower scores 47%. The 60% grower scores 70%.
The results side by side
| Example | Growth | Margin | Score | Gap to 40 |
|---|---|---|---|---|
| 1. Defaults | 25% | 18% | 43% | −3% |
| 2. On the screen | 22% | 18% | 40% | 0% |
| 3. Below | 15% | 8% | 23% | 17% |
| 4. Growth carries a loss | 55% | −8% | 47% | −7% |
| 5. Growth slows | 15% | 18% | 33% | 7% |
| 6. Month typed as 10% | 10% | 18% | 28% | 12% |
| 6. Month times 12 | 120% | 18% | 138% | −98% |
| 7. Growth-heavy | 35% | 5% | 40% | 0% |
| 7. Margin-heavy | 5% | 35% | 40% | 0% |
| 8. Slow and a loss | 8% | −20% | −12% | 52% |
| 9. Before the gain | 20% | 15% | 35% | 5% |
| 9. Gain in the margin | 20% | 20% | 40% | 0% |
| 10. Far above | 60% | 10% | 70% | −30% |
Example 6’s 138% is the month multiplied by 12. Example 9’s jump from 35% to 40% is the $60,000 equipment gain sitting in the margin. Example 7 is two businesses with the same score and different mixes.
A negative gap is points above 40. A positive gap is points left to reach it. Type the growth rate for the same period as the margin. Year-over-year revenue from a start value and an end value can go through the CAGR calculator first when the span is not a single year. Then type that rate here.