It is important to compare yourself with similar companies, especially around accounting policies. The Rule of 40 depends on the stage of your company and your accounting policies. Startups should not be measuring this, because in startup mode, it’s more about product/market fit, go-to-market strategy, and cash flow. You should measure the Rule of 40 when you’re a more mature company, for example when you’ve built out most of the common, functional departments within your SaaS company. It’s grading you on the execution of profit versus growth.
The Rule of 40 metric helps you quantify the tradeoff between growth and profit. Just recognize where you land in the tradeoff. On the flip side, if you have low growth, you’d better be generating high cash flow and high EBITDA margins to be attractive to your shareholders, investors, and potential acquirers. If you are experiencing high revenue growth, it’s unlikely that you have high margins, because you are likely investing heavily in sales and marketing. There’s a trade off, and you need to determine where you fall in this equation. It’s hard to have a high profit AND high growth at the same time. At its core, the rule of 40 focuses on the never-ending quest to balance the tradeoff between growth and profit.
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