GLOSSARY
What Is Rule of 40? | Agency M&A Definition
The Rule of 40 is a performance benchmark stating that a healthy company’s combined revenue growth rate and profit margin should equal or exceed 40%. For example, an agency growing at 25% with a 15% profit margin scores 40 and meets the threshold. Originally popularized in SaaS, it has been adopted in agency M&A to evaluate agencies with recurring or retainer-based revenue models.
Rule of 40 in Agency M&A
The Rule of 40 has gained traction in marketing agency M&A as more agencies shift toward predictable, retainer-based revenue models that resemble SaaS businesses. When evaluating a digital marketing agency with managed services contracts or a marketing automation agency with monthly retainers, buyers increasingly apply this benchmark to assess whether the agency balances growth and profitability effectively. An agency growing revenue at 30% but operating at a 5% margin scores 35 — below the threshold — suggesting it is scaling unsustainably. An agency growing at 10% with a 25% EBITDA margin scores 35 as well, indicating solid profitability but limited growth appeal. The sweet spot for agency acquirers is a score above 40, ideally driven by a combination of at least 15% growth and 20%+ margins. Agencies scoring above 50 are considered exceptional and typically attract competitive interest from private equity buyers and strategic acquirers. Sellers preparing for an exit should track their Rule of 40 score over time and consider whether investing in growth or improving margins will more effectively push them above the threshold before going to market.
How Rule of 40 Affects Agency Valuation
The Rule of 40 has become a shorthand for premium valuation in agency M&A. Agencies that consistently exceed a score of 40 typically command multiples at the upper end of the 4-8x EBITDA range, often 6.5x-8x. Those falling below 30 tend to cluster at 4-5x. The metric is especially powerful because it accommodates different business strategies: a high-growth agency reinvesting profits and a mature profitable agency can both achieve strong scores through different paths. Private equity buyers, who now account for a significant share of agency acquisitions, use the Rule of 40 to benchmark potential acquisitions against their existing portfolio companies. Agencies scoring above 40 are more likely to receive unsolicited acquisition interest and can run more competitive sale processes.
Example
A marketing analytics agency generates $3.2M in annual revenue with $640,000 in EBITDA (20% margin) and year-over-year revenue growth of 22%. Its Rule of 40 score is 42 (22 + 20), placing it above the benchmark. This score helps the agency attract a 7x EBITDA offer ($4.48M) from a private equity-backed holding company. A comparable agency in the same niche with $3.4M in revenue but only 8% growth and 18% margins scores 26, receiving offers in the 4.5-5x range. The $360,000 EBITDA difference between the two businesses is dwarfed by the $1.6M gap in enterprise value driven by the Rule of 40 differential.
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