How much should a SAAS business spend - the ``40% rule``.

A new metric is doing the rounds, called “The 40% rule” for companies with a SAAS (software as a service) revenue model:

What does this mean in practice? The calculator below (we’re trialing a new plug-in, click ok on the pop up) is a guide on what your spend budget should be for 12 months. It works best if you’ve got at least $80K / month in revenue as a starting point. 

While it’s a guide, if you’re reasonably close, your investors are more likely to understand what you’re spending and why you’re spending it. Don’t know these numbers? Keep scrolling down for a guide on what they are. 

A. Revenue Metrics

If you’re generating at least $80K / month in revenue these are the numbers you’ll need at your fingertips, so it’s good to get familiar with them:

  • Revenue / Customer / Month – how much do you charge, on average across your full user base, per paying customer. Remember to take GST / VAT out.
  • # Customers now – how many paying customers do you have at the moment (it’s the same number you use in the calculation above).
  • What % growth in paying customers do you expect each month
    • 6% / month = 90% / year
    • 7% / month = 110% / year
    • 6.5 % / month = 100% = > you’ve doubled the number of paying customers in 12 months

This will calculate your MRR (Monthly Recurring Revenue) now and in 12 months time, plus your total revenue over 12 months.

It’ll also calculate your annual growth rate – which we then deduct from 40% to figure out what your EBITDA (earnings before interest, taxes, depreciation and amortisation) should be.

Let’s say your annual revenue is approx $1.5m and your annual growth rate is 100%. That means your total cost budget would be $1.5m * 1.6 = $2.4m.

B. How does your cost budget stack up?

You need 2 numbers here:

  • How much will you spend in total costs over 12 months. Don’t know what this is? Try our starter budget to figure it out.
  • For your R&D claim, how much have you spent in total which is claimable?

This will then tell you whether you are over or under spent, based on the 40% rule.

Why do we take out the R&D spend?

The 40% rule is a US based metric, so it’s based on their accounting rules. Product development costs are removed from EBITDA under those rules.

The best proxy for that is how much you’ve spent which is eligible for R&D. It’s not exact but it’s close enough.

This will tell you whether you are over or under spent in your budget – a small variance is fine, you’ll never get it exact. It’ll tell you whether you’re on track overall.