How an IT services firm reads the Rule of 40 when its margin falls from 15 to 9 percent in a growth year

It is September and the managing director of an IT services firm with 40 employees is working on the 2027 budget with his accountant. Revenue this year comes out at €4.2 million, EBITDA at €630,000, a margin of 15 percent. The plan for next year: twelve more consultants, revenue to €5.2 million. The accountant has brought up the Rule of 40, a rule of thumb from the software world that says growth rate and margin together should exceed 40. This year the company scores 22.7. With the growth plan it comes to 32.5. The director sees a figure that rises and a margin that halves, and does not know which of the two to believe.

In a business that sells hours, you buy growth with margin in the same year; the Rule of 40 adds the two together and so hides the question that matters: does the margin given up come back.

The market makes that question sharper this autumn. ABN AMRO (September 2026) reports in its quarterly outlook for the secondment sector (market report) that the volume of seconded hours in the second quarter of 2026 was 8.3 percent lower than a year earlier, 8 percent lower in ICT, while rates rose 4.5 percent. If you want to grow 24 percent in that market, you grow at the expense of a competitor, and you hire people before the revenue is there.

Where the Rule of 40 comes from and who it is meant for

Brad Feld (2015) described the rule on his blog (trade publication, not research) as an investor had explained it to him at a board meeting: annual growth in recurring revenue plus EBITDA margin should add up to 40 percent. Twenty percent growth with twenty percent margin is healthy, forty percent growth with zero margin too, and the rule was meant for subscription software companies from about one million dollars of monthly revenue.

The consultancies then tested the rule against the figures of listed software companies. Bain (Depeyrot and Heap, 2018) found in a market report that 40 percent of software companies met the rule in a single year, 25 percent three years in a row and 16 percent five years in a row, and that the companies that sustained it received a valuation (enterprise value divided by revenue) twice that of the companies below. BCG (Emerson and others, May 2025) reports in a market report that of software companies with less than 30 million dollars in revenue, 9 percent are above 40, and of companies above 80 million, 26 percent.

So even in the sector it was devised for, only a minority meets the rule. And it works there because a software company has a gross margin of 70 to 80 percent: an extra customer costs almost nothing to deliver, so the trade-off is about how much you put into sales and development. An IT services firm delivers with people. Every extra euro of revenue requires about 57 cents of salary before anything is left, and those people have to be there before the hours are invoiced.

Why growth in an IT services firm costs margin first

SPI Research (2026) publishes an annual benchmark (market report) on services firms that sell hours; the 2026 edition is based on 509 organisations with 245,000 consultants between them. For 2025, SPI reports an average billable utilisation of 66.4 percent, the lowest in the history of the survey, an EBITDA margin of 9.9 percent and revenue growth of 5.2 percent. Add the last two together and the average services firm scores 15 on a scale where software companies have to reach 40. For this sector the rule works as a pointer at most.

At IT services firms and engineering consultancies we see that a growth year brings costs that do not exist in a normal year, and that management knows each of them individually but rarely adds them up.

In his first months, a new consultant is billable for part of his time, because he does not have an assignment yet or is still shadowing. His salary runs from day one. The senior who supervises him gives up hours in those same months that would otherwise have been invoiced. Then there is recruitment: an agency fee or an in-house recruiter, an assessment, a laptop, a car, training. And overhead grows in steps. At 40 people the director handles sales and the office manager handles HR; at 52 an account manager and a recruiter are added, and they cost a full salary before the twelve new consultants have worked a full year.

A software company also has these costs, but there they sit in sales and development costs, which sit alongside the gross margin. In a services firm they sit in the cost of sales itself. That is why the margin falls in the growth year itself.

Worked example: from 40 to 52 employees in one year

In this worked example, in 2025 the company has thirty consultants who each bill 1,400 hours at €100 per hour, 81 percent of the 1,720 available hours. Revenue: 30 times 1,400 times 100 is €4,200,000. A consultant costs €80,000 a year including employer's contributions, pension and car, so €2,400,000. Eight people in management, sales, HR and office cost €600,000. Premises, licences, laptops, training and marketing cost €570,000. EBITDA: 4,200,000 minus 2,400,000 minus 600,000 minus 570,000 is €630,000, 15.0 percent. Revenue in 2024 was €3,900,000, so growth in 2025 was 7.7 percent, and the Rule of 40 score 7.7 plus 15.0 is 22.7.

The plan for 2026: twelve more consultants, four on 1 January, four on 1 April and four on 1 July. That is 4 plus 3 plus 2 is 9 consultant-years. In this worked example, a new consultant is half billable in his first three months, and costs his supervisor 40 hours. So per new consultant, 0.25 times 0.5 times 1,400 is 175 hours plus 40 hours is 215 hours are lost. The extra billable hours are 9 times 1,400 is 12,600 minus 12 times 215 is 2,580, so 10,020 hours, and the extra revenue €1,002,000. Revenue 2026: €5,202,000, growth of 23.9 percent. Rates and salaries stay the same in the example; the example isolates the effect of growth.

The costs: the new consultants cost 9 times 80,000 is €720,000. Recruitment and equipment cost €15,000 per person, €180,000. An account manager and a recruiter are added, €150,000, so staff cost €750,000. Other costs rise by €12,000 per extra employee, 11 times 12,000 is €132,000, to €702,000. EBITDA 2026: 5,202,000 minus 2,400,000 minus 720,000 minus 180,000 minus 750,000 minus 702,000 is €450,000, 8.7 percent. Rule of 40 score: 23.9 plus 8.7 is 32.5.

In 2027 hiring stops. The 42 consultants each bill 1,400 hours: revenue €5,880,000, 13.0 percent growth. Salary costs 42 times 80,000 is €3,360,000, staff €750,000, other costs 570,000 plus 14 times 12,000 is €738,000. EBITDA: 5,880,000 minus 3,360,000 minus 750,000 minus 738,000 is €1,032,000, 17.6 percent. Score: 13.0 plus 17.6 is 30.6.

In the growth year the score is 32.5. In the harvest year, the year in which the company makes the most profit and runs the least risk, it is 30.6.

What the Rule of 40 hides in this example

Calculate one level below the annual figures and split 2026 into the existing team and the new team. The thirty consultants from 2025 make the same €4,200,000 of revenue in 2026 against €2,400,000 of salary: a contribution of €1,800,000, 42.9 percent. The twelve new consultants make €1,002,000 of revenue against €720,000 of salary and €180,000 of recruitment: a contribution of €102,000, 10.2 percent. From that, €1,452,000 of overhead is deducted, €282,000 more than in 2025. The existing team performs exactly as last year. The margin falls because the new team contributes almost nothing in the first year and overhead is already set up for 52 people.

The average of 8.7 percent averages those two away. A director who only sees that average goes looking for a problem in utilisation or rates that is not there.

Cash shows the third picture. The €450,000 EBITDA does not come in as cash in 2026. With a 45-day payment term, receivables grow with revenue: €1,002,000 of extra revenue times 1.21 VAT times 45 divided by 365 days is €149,000 still outstanding with customers at the end of 2026. Laptops and fittings for fourteen new people cost €42,000. And the 2026 provisional corporate income tax assessment (voorlopige aanslag) is based on the 2025 profit level: €630,000 EBITDA minus €60,000 depreciation is €570,000 taxable, 19 percent on the first €200,000 and 25.8 percent on the rest is €133,460, while 2026 profit comes out lower. The difference only comes back after the 2026 tax return; whether you can have the provisional assessment reduced in the meantime is a question for your tax adviser, we do not give tax advice. Free cash flow 2026: 450,000 minus 149,000 minus 42,000 minus 133,000 is about €126,000. In 2025, with €45,000 of receivables growth, €20,000 of investment and a €115,400 provisional assessment on the 2024 profit level (€500,000 taxable), it was about €450,000. How a company that makes a profit still runs out of money is worked out in Why a profitable SME still gets stuck on cash flow.

What a buyer pays for a percentage point of margin

The Rule of 40 weighs a percentage point of growth and a percentage point of margin equally, and for a listed software company valued on a revenue multiple that is defensible. An SME IT services firm is valued on EBITDA. Brookz (Overname Barometer H2-2025, February 2026) reports in a market report based on transactions in the Dutch SME market an average multiple of 6.7 times EBITDA for IT services and 7.5 for software development, against 5.0 for SMEs as a whole. These are averages across companies sold; a buyer normalises EBITDA and corrects for dependence on the owner, so do not treat it as your price.

At 6.7 times EBITDA, the company in the worked example is worth about €4.2 million at the end of 2025, and about €6.9 million at the end of 2027. The growth year was an investment of €330,300 (the 15 percent margin the company would have made on €5,202,000 of revenue, €780,300, minus the €450,000 it actually made) that yields €402,000 of extra EBITDA per year in 2027. Payback period: 330,300 divided by 402,000 is 0.8 years.

Put next to that the other growth plan we often see on the table: hire the same number of consultants, but bring in the growth with a framework contract at €92 per hour instead of €100. In 2027, revenue is then 42 times 1,400 times 92 is €5,409,600, 29 percent more than in 2025, and EBITDA 5,409,600 minus 3,360,000 minus 750,000 minus 738,000 is €561,600, 10.4 percent. At 6.7 times EBITDA the company is then worth about €3.8 million, less than before the growth plan started. With the same twelve people and almost the same revenue, the company is worth €3.1 million less than in the first scenario.

Davidsson, Steffens and Fitzsimmons (2009) followed samples of small and medium-sized companies in Australia and Sweden over four years in a peer-reviewed study in the Journal of Business Venturing, and found that companies that were profitable first and then grew more often ended up in the desired combination of high growth and high profit than companies that grew first with a low margin. Ben-Hafaïedh and Hamelin (2023) repeated that research in a peer-reviewed replication study in Entrepreneurship Theory and Practice with data covering about 40 percent of European SMEs, over a longer period, and reached the same conclusion. In the first scenario, the company in the worked example grows from a 15 percent margin that stays intact on the existing team. In the rate scenario it grows by giving away margin, and that does not come back.

When a lower margin in a growth year is acceptable

A margin that falls in a growth year is not a problem as long as you can show where it went and when it comes back. In the worked example those are four checks, listed in the order in which you can carry them out during the year.

A growth plan that pays for itself in less than a year easily beats the savings account and the dividend, provided the fourth check holds: that the 42 consultants actually bill 1,400 hours in 2027. In the market ABN AMRO describes in September 2026, with 8 percent fewer seconded ICT hours than a year earlier, that is the assumption the director should test most sharply, and the assumption the Rule of 40 score does not show at all.

How to recalculate the Rule of 40 for an IT services firm yourself

The rigorous method is a monthly cash forecast with utilisation per consultant, in which you set apart intake, onboarding time, overhead steps and tax; that is the work we do for our clients, and so it is also how we earn our money. The do-it-yourself version takes an afternoon with the annual figures and the staff list, and in four steps gives the same answer in broad terms.

Step 1: calculate the contribution of the existing team. Revenue from the consultants who were already there on 1 January, minus their salary costs. In the example: 4,200,000 minus 2,400,000 is €1,800,000, 42.9 percent. This figure should not move in a growth year.

Step 2: calculate the growth investment. Normal margin times the revenue of the growth year, minus actual EBITDA. In the example: 0.15 times 5,202,000 is 780,300, minus 450,000 is €330,300.

Step 3: calculate the extra EBITDA in the following year, when hiring stops. Number of consultants times hours times rate, minus salaries, staff and other costs, minus the EBITDA of the base year. In the example: 1,032,000 minus 630,000 is €402,000.

Step 4: divide step 2 by step 3. That is the payback period of the growth in years: 330,300 divided by 402,000 is 0.8.

If you still want to use the Rule of 40, take the average over three years, as Bain (2018) tested the rule over three and five years. In the example: (22.7 plus 32.5 plus 30.6) divided by 3 is 28.6. That figure says more about the company than the 32.5 of the growth year, and it also shows that a services firm with a 15 to 18 percent margin and 8 to 13 percent growth comes out around 25 to 30. For this business model the usable range lies between SPI's average of 15 and about 30.

When this worked example does not apply

The model above assumes that you grow with employees on the payroll and that the rate stays the same. For some companies that is not the case.

A services firm that grows with a flexible layer of freelancers largely avoids the onboarding costs and the bench risk: a freelancer only costs money when billable. There the margin is more stable in a growth year, and there the Rule of 40 is a less poor measure. ABN AMRO (2026) does point out that the share of freelancers and interim professionals in the secondment sector is falling due to enforcement of the Dutch Deregulation of the Assessment of Employment Relationships Act (Wet DBA), so this way out is narrowing in 2026.

A company with a product component, for example a managed service provider with recurring management contracts or a firm with its own software platform, does have the cost structure the rule was devised for on that part of its revenue. In that case, split the revenue and apply the rule only to the recurring part.

A small company, under fifteen employees, cannot spread the steps in this model: one new consultant there is 7 percent growth and one extra staff member is 5 percent of revenue. There the margin in a growth year is always erratic, and an annual figure says little; calculate per quarter instead.

And the model assumes a rate the market will bear. If the 24 percent growth can only be achieved by undercutting the rate of existing customers, the rate scenario above is reality, and then the conversation with your accountant is about whether you want to grow this year.

How to monitor growth and margin in an IT services firm month by month

Put the margin on the existing team as a separate figure in your monthly report. In the example, that is the 42.9 percent contribution; any fall in it points to a problem in the business itself. How to track utilisation per consultant is explained in The utilization rate as a steering metric, and how to monitor margin per assignment in Keeping projects profitable: from estimate to evaluation.

Record the onboarding time per new consultant as a figure: 215 lost hours in the example, or your own figure from the last five people you hired. At services firms we see that this figure is almost never measured, while in the example it costs €258,000 of revenue, more than the €180,000 of recruitment costs.

Calculate the growth investment and the payback period before you sign the budget, using the four steps above. A payback period above two years is, in this business model, a reason to halve the number of hires and look again the following year.

Spread the intake and measure per quarter. Four people per quarter, as in the example, shows you after three months whether the first group is billable before the second group starts. Twelve people on 1 January costs €258,000 of lost hours in one quarter in the example, without a moment to adjust.

Make the cash forecast per month, and include the provisional assessment based on last year's profit level. In the example that is the difference between €450,000 EBITDA and €126,000 of cash. How to set up such a forecast is explained in Rolling forecasts: steering in a moving market.

Frequently asked questions about the Rule of 40 in IT services

Does the Rule of 40 also apply to an IT services firm?

As a pointer, averaged over three years. The rule was devised for software companies with a gross margin of 70 to 80 percent, where an extra customer costs almost nothing. An IT services firm delivers with people and pays for growth out of its margin in the same year. SPI Research (2026) measures an average of 5.2 percent growth and 9.9 percent EBITDA margin across 509 services firms, together 15. A services firm that reaches 25 to 30 is well above its sector.

How do I calculate the Rule of 40 for my company?

Revenue growth compared with last year in percent, plus EBITDA margin as a percentage of this year's revenue. In the worked example: 23.9 percent growth plus 8.7 percent margin is 32.5. For a services firm, take the average over three years, because a growth year depresses the margin and the year after raises it.

Is 24 percent growth with a 9 percent margin healthy?

That depends on where the margin went. If the existing team delivers the same contribution as last year and the lower margin is fully explained by onboarding time, lost senior hours, recruitment and extra overhead, it is an investment you can calculate back. In the example it pays for itself in 0.8 years. If the margin falls because the rate or utilisation of the existing team drops, the margin does not come back the following year.

How much does a new consultant cost in his first year?

In the worked example, €80,000 in salary, €15,000 for recruitment and equipment, and 215 lost billable hours (€21,500 of revenue) due to onboarding and supervision. Against a full year stands €140,000 of revenue, against a start on 1 July €70,000. A consultant who starts on 1 July therefore contributes nothing to EBITDA in his first calendar year, and €60,000 in every year after.

What is a good EBITDA margin for an IT services firm?

SPI Research (2026) reports an average of 9.9 percent for 2025 and a five-year average of 13.8 percent among the participating services firms worldwide. At Dutch SME IT services firms and engineering consultancies we see that 12 to 18 percent is achievable in a normal year, and that a growth year takes 5 to 8 percentage points off that.

What is my IT company worth at a 9 percent margin?

An SME buyer works with an EBITDA multiple; Brookz reports an average of 6.7 for IT services over the second half of 2025. At €450,000 EBITDA that is about €3.0 million. A buyer who sees that the 9 percent is a growth year with an existing team at 15 percent normalises EBITDA upwards; a buyer who sees that the rate was cut to grow does not. Always have a valuation done by an adviser; these are sector averages.

How many consultants can I hire per year without my profit disappearing?

Calculate per hire with the lost hours, the recruitment and the moment in the year. In the example, each consultant who starts on 1 January costs 80,000 plus 15,000 minus €118,500 of revenue in his first year, and contributes €23,500; someone starting on 1 July costs 40,000 plus 15,000 minus €48,500 of revenue and produces a shortfall of €6,500. Add the overhead steps to that. In the example, with twelve hires on thirty consultants the margin falls from 15.0 to 8.7 percent; with six hires spread over the year it falls to about 11 to 13 percent, depending on whether you need an extra staff member. Where the limit lies depends on how much cash you want to have left in the year.

Further reading: The utilization rate as a steering metric, Why a profitable SME still gets stuck on cash flow, Why a profitable installation company gets stuck at the bank as soon as it grows faster than its profit allows and Why a SaaS company with a healthy LTV/CAC runs out of money as soon as it grows faster. New: how an engineering consultancy with €7.2 million revenue decides whether it needs a CFO or a controller.

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