Know the Figures

Rule of 40 Calculator

Growth plus margin. The single number investors use to judge the trade.

Replaces: Investor benchmarking spreadsheets

How to use it

Add your growth rate to your profit margin. The convention holds that a software business should total at least 40 — growing fast while losing money is acceptable, and so is growing slowly while profitable, but doing neither is not.

Where the number comes from

  • The score is simply growth percentage plus margin percentage. Both are annual and both are percentages, which is what makes adding them defensible.
  • The growth needed at your current margin is the target minus your margin.
  • The margin needed at your current growth is the target minus your growth.
  • The table shows what margin each growth rate would require to reach the target, and what that margin means in money at your current ARR.
  • Nothing is weighted. The rule treats a point of growth and a point of margin as equivalent, which is its central assumption and its central weakness.

What goes wrong

The part most calculators leave out.

  • Growth and margin are not actually interchangeable. A point of growth compounds into future years; a point of margin does not. Two companies with identical scores can be worth very different amounts.
  • Which margin you use changes the answer substantially. EBITDA, operating margin and free cash flow margin can differ by ten points or more, and the rule is quoted with all three.
  • The rule was popularised for companies at meaningful scale. Applied to a business doing 2m ARR, 200% growth produces a spectacular score that describes very little.
  • It says nothing about retention, concentration, or whether the growth is bought. A company growing 40% by discounting into an unprofitable segment scores the same as one growing organically.
  • Scores are easily managed for a reporting period. Deferring hiring or marketing lifts margin briefly at the cost of the following year’s growth.

Two ways to reach the same score

A business at 12m ARR growing 34% with a −6% margin scores 28 — twelve points short of 40. It could close the gap by growing 46% at the same margin, or by reaching a 6% margin at the same growth. Those sound comparable and are not. Twelve extra points of growth means 1.44m of additional new ARR; twelve points of margin means 1.44m less spend. The first requires the market to cooperate, the second requires only a decision. Which is why companies under pressure on this metric almost always fix it from the margin side, and why the score improving is not always good news.

Questions

Which margin should I use?
Free cash flow margin is the most common in investor conversations and the hardest to flatter. EBITDA is used more often internally. Whichever you choose, use it consistently — switching between them mid-discussion is a well-worn way to appear to improve.
Does the rule apply to early-stage companies?
Not usefully. At small ARR the growth percentage swings wildly and dominates the score, so the number stops describing efficiency and starts describing the size of the denominator.
Is a score above 40 always good?
It is a positive signal, not a verdict. A high score built on one large customer, or on discounting that will not renew, tells you less than the score suggests. The rule is a screen, not an analysis.
Does anything I type get sent anywhere?
No. The whole calculation runs in your browser. Nothing is transmitted, stored, or logged, and there is no account to create.

Last updated .

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