Valuation
Rule of 40
The Rule of 40 states that a healthy SaaS company's growth rate plus profit margin should equal or exceed 40%. It balances the trade-off between growth and profitability.
Formula
Rule of 40 Score = Revenue Growth Rate (%) + Profit Margin (%)Examples
| Scenario | Growth | Margin | Score | Assessment |
|---|---|---|---|---|
| High growth, low profit | 60% | -10% | 50 | Healthy — investing in growth |
| Balanced | 25% | 20% | 45 | Healthy — sustainable |
| Low growth, high profit | 10% | 35% | 45 | Healthy — cash cow |
| Struggling | 15% | 10% | 25 | Below threshold |
Why 40?
The number 40 emerged from analyzing hundreds of SaaS companies. Companies scoring above 40 tend to:
- Command higher valuation multiples
- Have more sustainable business models
- Balance investment in growth with capital efficiency
Rule of 40 for AI-Run Companies
AI-run companies crush the Rule of 40 because of their cost structure:
Traditional SaaS example:
- Revenue growth: 30%
- Profit margin: 10% (huge team costs)
- Score: 40 ✓ (barely passing)
AI-run SaaS example:
- Revenue growth: 30% (same growth)
- Profit margin: 60% (near-zero employee costs)
- Score: 90 ✓✓✓ (dominating)
When you eliminate 80% of operating costs, even modest growth produces exceptional Rule of 40 scores. This is why AI-run companies on EvolC represent a new category of investment — businesses that look like high-growth companies on revenue and like cash cows on margins, simultaneously.