Discover the Rule of 40 for SaaS in 2025- what it means, current benchmarks, and how it impacts valuations. Learn how founders can balance growth and profitability, track performance, and improve efficiency to reach sustainable scaling.
I. Your Growth Looks Good, But Is It Sustainable?
You might be growing quickly and your ARR chart may look strong, but if your margins are in the red, you’re not alone. In today’s SaaS environment, this is a common challenge. The Rule of 40 was created to help SaaS founders and investors assess whether a company is growing in a financially sustainable way.
This blog will explain what the Rule of 40 means in plain terms, how real SaaS companies are performing in 2025, and what you can do to improve your score with only verified, up-to-date sources.
II. What Is the Rule of 40? A Clear Explanation for SaaS Founders
The Rule of 40 is a benchmark used to evaluate the balance between growth and profitability in SaaS businesses. The formula is:
Rule of 40 Score = Revenue Growth Rate (%) + Profit Margin (%)
If the combined result is 40% or higher, your company is considered to be scaling sustainably.
Revenue growth is typically measured using year-over-year growth in Annual Recurring Revenue (ARR), while profitability is often measured using EBITDA margin or free cash flow margin.
Example:
Let’s say your SaaS company:
- Grew ARR by 30% last year
- Has an EBITDA margin of 15%
Your Rule of 40 score would be:
30% (ARR Growth) + 15% (EBITDA Margin) = 45% 
This suggests that you’re growing efficiently enough to either justify investor confidence or maintain a healthy valuation in a capital-conscious environment.
III. How to Calculate the Rule of 40 (and Avoid Mistakes)
To calculate the Rule of 40 accurately:
- Use Year-over-Year ARR Growth, not total revenue or bookings.
- Use consistent profitability measures, such as EBITDA or free cash flow margin.
- Add the two metrics together to arrive at your Rule of 40 score.
Common errors to avoid:
- Using net income instead of EBITDA, which may distort efficiency
- Ignoring churn in growth calculation
- Comparing different time periods for growth and profitability
For example:
Company | ARR Growth | EBITDA Margin | Rule of 40 | Result |
A | 35% | 10% | 45% |
|
B | 50% | -20% | 30% |
|
C | 15% | 25% | 40% |
|
Growth-heavy(Source: CloudZero, 2024)
IV. Benchmarks in 2025: What Real SaaS Companies Are Scoring
According to Pelanor/Meritech Capital, Q3 2024, among publicly traded SaaS companies:
- Median Rule of 40 Score: ~34%
- Median EBITDA Margin: ~6%
- Median Net Margin: ~2%
More than half of public SaaS companies are not hitting the Rule of 40, even in late-stage scenarios. Among companies that IPO’d between 2017 and 2024, the average score is under 10%.
This shows that achieving the Rule of 40 is challenging but those who reach it stand out.
V. Why the Rule of 40 Impacts Your Valuation
A 2024 study by Aalto Capital found that companies exceeding the Rule of 40 enjoy up to 129% higher valuation multiples compared to those that don’t. In contrast, the same premium was just 23% in 2022.
This confirms that investors increasingly reward balanced growth. The better your Rule of 40 score, the more attractive your company becomes in the eyes of late-stage VCs and acquirers.
VI. How Bootstrapped and VC-Backed Startups Compare
According to SaaS Capital’s 2025 Private SaaS Metrics Report:
- Bootstrapped SaaS companies consistently outperform VC-backed companies on the Rule of 40.
- VC-backed firms have improved efficiency in recent years. In the $1M – $3M ARR range, average operating loss margin improved from -53% to -8% between 2022 and 2025.
This suggests that efficient growth is possible under both models but bootstrapped firms tend to get there sooner.
VII. When Should You Start Tracking the Rule of 40?
Early-Stage (Pre-Seed to Series A):
It’s not essential to optimise for Rule of 40 here. Focus on product-market fit and building a reliable revenue engine.
Growth-Stage (Series B and beyond):
Investors begin paying closer attention. Use the Rule of 40 to guide spend, team structure, and pricing.
Late-Stage / IPO Prep:
Now it’s critical. Falling short can impact your valuation multiple and IPO readiness.
(Source: Burkland CFO Advisory, 2024)
VIII. How to Improve Your Rule of 40 Without Killing Growth
To Improve Margins:
- Eliminate cloud waste and excess tooling (FinOps approach)
- Automate manual workflows
- Reevaluate pricing and discounts
- Improve CAC efficiency
To Improve Growth:
- Drive expansion revenue from existing customers
- Improve onboarding and reduce churn
- Align sales, marketing, and CS teams to focus on ideal customer profiles
Efficiency Formula:
(Revenue Quality × Spend Efficiency) = Sustainable Rule of 40
(Source: CloudZero, 2024)
IX. Final Thoughts: Use the Rule of 40 as a Signal, Not a Target
The Rule of 40 helps you understand whether your SaaS business is growing responsibly. It isn’t a magic number, it’s a strategic indicator.
If you’re still early, use it to plan ahead. If you’re scaling, track it quarterly. If you’re preparing for exit, it could be the metric that defines your valuation.
You don’t need to hit 40% today. But you should know exactly how and when you’ll get there.
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