Rule of 40
A screening heuristic for software companies: revenue growth rate plus profit margin should total at least 40 percent.
The Rule of 40 combines growth and profitability into one score. Growth is usually year-over-year revenue growth. Profitability is often free-cash-flow margin or adjusted operating margin, and companies and analysts use different versions. A score of 40 or more is treated as healthy for a fast-growing software business.
It is a screening rule, not a valuation standard. Traders use it to compare firms of different sizes and stages, and to see whether growth is being bought with heavy losses. Always state which growth and margin definitions are being used.
Worked example (illustrative numbers, not real data): a company grows revenue 25 percent with an 18 percent free-cash-flow margin, for a score of 43. A second company grows 35 percent with a 0 percent margin, for a score of 35, which falls short of the threshold.