Growth vs Profit: Behold the rule of 40

“You have to spend money to make money” Yes, but how much? asks Middle Office's Thomas Taylor.

It’s questions like this we hear the most. “How fast should we grow?” “What should our profit be?” “How do we know if we can afford to put on new staff?”

How do you know if your numbers are ok? How will a potential buyer assess your revenue and growth? Especially your contractor margin.

New staff take a while to get up to speed, some take longer than others, and a some don’t make it at all. Assuming you are managing your onboarding and training well, and making sure not to let people struggle unnecessarily for too long, what should your numbers look like?

There is a rule of thumb you can use for this very thing; it’s called the rule of 40. The rule of 40 is commonly used by subscription software companies, to work out how to rate their recurring revenue. So, it works well for agencies too. The rule of 40 states that your percentage profit and your percentage annual growth should add up to at least 40%. The bigger the number the better.

PROFIT % + GROWTH % >40%

So, if your annual profit is only running at breakeven but you are growing at 40%, that’s ok. If your profit is 40% but with no growth, that’s sometimes ok too. Or any combination of the two, even negative profit is ok. Probably not negative growth.

Think of it a bit like climbing in an aeroplane, once all that messy starting out and taking off are done, once you are in the air, you must balance speed against rate of climb. If you level off your speed should increase. The outcome of both speed and altitude is a result of power to weight ratio and efficiency.

Middle Office helps you get there

We provide contractor pay and invoicing to recruitment agencies, we do all the hard systems work for you. We also provide back-office processing, weekly margin reports and monthly management reporting, right though to CFO and advisory board services.

You get to be up front in the cockpit and fly the place, we run the systems.

The most important dial on your dashboard should stay above 40%.