SaaS EBIT margin and the Rule of 40

The Rule of 40 says a healthy SaaS business has growth rate plus EBIT margin above 40. A 30% grower with 10% EBIT margin clears. A 15% grower needs 25% EBIT margin to clear. GAAP SaaS EBIT is usually negative because of SBC; adjusted EBIT is the figure SaaS investors actually trade on^[Damodaran].

Typical SaaS EBIT margins (2026)

Damodaran's "Software (System)" bucket sits at 23.4% median operating margin; "Software (Application)" at 15.6%; "Internet Software" at 11.3%. Public SaaS companies cluster around adjusted EBIT margins of 10-25% once scale kicks in.

The Rule of 40

Rule of 40 score = Revenue growth (%) + EBIT margin (%)

Investors expect a score above 40 for a high-quality SaaS business. The growth side usually carries the score for sub-scale names; the margin side carries the score for mature names like Adobe or Autodesk.

Why GAAP vs adjusted matters

SBC for SaaS routinely runs 15-25% of revenue. Adding SBC back flips many SaaS names from GAAP-loss-making to adjusted-profitable.
The SEC permits the adjusted measure provided the reconciliation is shown^{[Reg G]}.
See SBC line-item page.

See Snowflake FY25 for the canonical worked example.