The who, what, when, where and how of angel investing.

We created the AirTree Explorer program to find and nurture the next generation of angel investors in ANZ, with a specific focus on bringing diversity to an old-school industry. 

We hope to foster an active, vibrant, and world-class angel investment community in Australia and New Zealand through the program. But relative to the number of applications we get, we can only take a handful through each cohort.

We're all about democratising access to information to grow and support the whole startup ecosystem, which is why we've decided to open source some key insights from the Explorer program. 

To get started, we’re exploring angel investing 101 to help anyone at the beginning of their angel investing journey improve their knowledge and build confidence.

This post covers some of the basics, including:  

  • Why you might want to consider angel investing (and why you shouldn’t!) 
  • How to think about the risk/reward trade off
  • The importance of portfolio diversification
  • How to think about your investment ‘budget’

In future posts we’ll cover things like deal sourcing and due diligence.

Why should you consider angel investing?

There are a few reasons why people consider angel investing. Some see angel investing as a high-risk, high-return asset to diversify their investment strategy. Others may choose to invest because they want to give back to the tech ecosystem, support entrepreneurs and work with exciting founders.

Ultimately, what’s common amongst all angel investors is a curiosity to learn more about companies that are taking big bets to solve complex problems, and an interest in investing in things that have an outsized impact on the world.

Everyone will have their own reasons, but it’s really important to say this upfront: 

Angel investing is hard. It’s an extremely high-risk asset class and people should never invest what they are not prepared to lose. 

In fact, we’d go as far as to say that if you’re only aiming for a financial return (rather than investing out of interest/passion for the space), then nine times out of ten you’d be better off investing in a balanced index fund instead.

For the most part, successful angel investors do it because they are deeply curious and passionate about the space and/or feel like they have some sort of advantage when it comes to picking companies or seeing great deal flow.  

Disclosures aside, we really do think there’s never been a better time to be an angel investor in ANZ. Our region is producing world-class startups at an accelerating rate, and tech is now the third largest contributor to Australian GDP (behind primary industries and manufacturing). As the most capital efficient producer of unicorns, Australia has a proud history of building startups that can do more with less. 

Plus, the ecosystem needs more angels than ever before. In terms of opportunities, VC fundraising is growing in Australia, but it’s still much smaller than our global peers as a % of GDP. Additionally, diversity remains an important area for improvement across the tech ecosystem. A lack of diversity on the cap table contributes to a lack of diversity in companies funded, resulting in less successful companies. Improving angel diversity is crucial; if we don't have a diverse angel ecosystem in ANZ, then we won’t have a diverse investor and startup ecosystem.

Startup funding gap and lifecycle

The reason that seed stage investment is the lifeblood of almost every startup is because of early-stage companies’ cash burn profile. In the early years, most startups will encounter a mismatch between their expenses and revenue, creating: “The startup funding gap”.

The idea being, that to tackle (and solve!) a big hairy problem in a large market, there is often a gap between your revenue (which is usually $0 to begin with) and your costs (including salaries, office leases, software costs and more). 

As a result, most startups are intentionally loss-making in the early years. Obviously they are started on the expectation that, over time, they'll have a path to profitability. But in the early phase, investment is usually crucial to get startups past the gap. 

The startup lifecycle

It’s useful to think of a startup lifecycle in terms of phases.  There are no hard and fast definitions for each stage, however some ways you can think about it are:


Typically where a company is building a product and getting feedback from potential users; we often refer to this as testing the ‘value hypothesis’. The ultimate aim for this stage is to build a product that has product-market fit (PMF). PMF is a bit of a slippery term in startups, but refers to the point where you are confident that there is a market demand for the product that you’ve built. This phase (which can last months or years) is where most angel cheques happen.

Series A-B

In this phase, companies are figuring out how to ‘sell’ the product they’ve built. We often call this phase ‘testing a growth hypothesis’, as you experiment with pricing, sales model, marketing and more to figure out a strong and repeatable way of acquiring and keeping customers. Given the focus on sales/marketing during this time, companies will usually require more resources, hence raising a Series A or B round.  


At a certain point a company may find itself with a product that its customers really love, and a sales model that is repeatable, predictable and profitable. At this point, the name of the game is to scale the model up, typically pouring more resources into customer acquisition. This is often when founders elect to raise much larger ‘growth’ rounds - anywhere from tens to hundreds of millions.

Startup graduation rates

As VCs, we’re very focused on startup graduation rates, i.e. the proportion of startups that raise subsequent rounds and grow into much larger companies after securing their first round of funding.

As you’d expect, there’s a steep cliff between seed stage startups created and those that make it to Series A. This cliff continues for Series B and beyond. 

Added to this is the fact that Australia is still a ways behind in terms of the proportion of startups that go on to raise larger rounds (see chart above). We’ve written about this difference in the past, and needless to say a lot of the work we do at AirTree is aimed at raising the blue line in the chart, so that the success rates of ANZ startups match global benchmarks.  

As an angel investor who is primarily funding seed rounds, this cliff may seem intimidating. The reality is that the average seed stage company does not go on to raise a Series A or beyond.  In some cases, this is because they don’t need it (i.e. they were able to get to profitability on the seed cheque alone), but in most cases it means that the startup has not been successful.

This means that, on average, you should expect an angel investment to return less than the money you invested.

While intimidating, this should highlight why it’s important to have a portfolio of different investments as an angel. As we’ll explain below, the average distribution of angel returns means that your wins should (hopefully) cover your losses, so you can make a decent return overall.

Angel returns distributions

We live in a normally distributed world, whether looking at population height, shoe size, birth weight, dice rolls or coin tosses. However, we don’t invest in a normal world. Venture returns famously follow the power law distribution, as depicted in the graph below.

A key takeaway from the Explorer course is that startup investors live and die by the power law. Because it’s so rare for humans to encounter this sort of distribution in everyday life, it’s hard to apply your theoretical understanding in practice. We’ve been in this industry for several decades, and even we sometimes find it difficult to intuit the implications of the power law.  

The power law means that over any random collection of early stage investments, most of them will lose money. A few of them may be ‘OK’ (which in our world can mean 2-3x invested capital), and then a few might have returns that are well and truly outside what a typical asset class would expect (think 20-100x). 

Practically, this means that the key to getting consistent returns is by having a large enough portfolio of investments. This increases the likelihood that you might nail a few outsized returns (or at least a few ‘OK’ ones) that will hopefully offset those that don’t make it. By building a portfolio with various investments and risk profiles, you maximise the likelihood that the power law distribution will work in your favour. As an angel, it’s all about building a portfolio that will give you the best chance at investing in one or two of these outlier outcomes. 

A good rule of thumb here is to aim for a portfolio of at least 5-10 investments, usually more. You don’t have to write 10 cheques all at once, often angels make their investments over a period of several years. We appreciate there’s a natural limit to how many investments you can write, both in terms of your budget and the time you can allocate to deals. But don’t go into angel investing expecting to only write one or two cheques, as you’re likely to lose money. 

All this to say, you shouldn’t invest in companies assuming they’ll all return 100x; rather you should look to manage the risks of what you choose to invest in and work on overcoming loss aversion. So much of investing comes down to managing your emotions and gut feelings when you’re evaluating companies. The reality is that you are very likely to lose money on a decent number of your investments, and it’s important not to let fear infiltrate your relationship with founders. Always remember that when a company is not working, whatever fear you feel about losing money is absolutely nothing compared to the fear that the founder is going through.

Power law in action

The table above demonstrates power law in action across a portfolio of random investments. This just happens to be the first nine angel investments by Jason Lempkin (Managing Director of SaaStr Fund), who was kind enough to make these public. What we can see from the table above is that while choosing winners is important, it’s only the true outlier that makes up the vast majority of overall returns. While it hurts to lose money on companies that don’t work out (see Company I), the overall impact is often negligible overall.

Similarly, concentrating capital into your winners is also key. In this case we can see that Company C returned a very large multiple of invested capital (10.6x), but the overall return was much smaller than Company A where Jason had been able to concentrate more of his money into. Using the concept of ‘reserves’ to concentrate capital into your winners is important, and we’ll talk about this below.

Reserves and liquidity horizons

Reserves refer to money you “reserve” for follow-on investments in your portfolio companies.

How important are they?

Theoretically, if you were the world’s best picker of outlier startups, you’d prefer to put as much as possible into first funding rounds (when valuations are cheapest) and not hold any reserves back for later rounds (when valuations usually increase).

However, most people aren’t this good. And even if you were the world’s best picker, you probably won’t know it for at least ten years. So it’s best to stay humble, realise that you’re going to make a bunch of mistakes, and build a reserve pool into your angel investment budget to invest in the future rounds of your winners. 

When you invest in companies, you’re also buying a front row seat to observe how the company and founders evolve over time. As you see companies evolve, you’ll have a much better idea of which ones are the most promising, and ideally, will have the opportunity to invest more money into later rounds. We reckon a good rule of thumb for how much to reserve is between 20% and 30% of your overall investment budget. 

Liquidity horizons are changing

Globally, many companies are staying private longer and raising more VC investment to avoid having to go public or be sold. Today, the best companies in your portfolio may not sell or IPO for 8-10 years (or more), which means that you may not actually see the $$ return for a very long time. How long it takes to get liquid returns is something to keep in mind when setting your investment budget. One option for partial liquidity that’s becoming more common is secondaries, which is when a pre-existing investor (theoretically you!) sells their investment to another interested party.

Should you take on the risk?

Early-stage tech investing is one of the most illiquid and highest risk asset classes. To compensate for illiquidity and risk, you must believe there’s sufficient return.

As a general rule, we think you should be looking at returns of at least:

  • Market investing benchmark plus 5-10% or
  • Market investing benchmark x1.5

Of course, some angels won’t hit these benchmarks, while others will smash them.

Identifying your budget

While angel investing may seem to require a lot of liquid cash, you often don’t need to write big cheques. If you have a strong rapport with the founders of a startup or can bring useful skills to the table, you’ll be able to find opportunities to invest smaller amounts. We know of plenty of angels who write cheques of a few thousand dollars, or in some cases less. We realise that this is still a lot of money for many people in today’s climate, but in our experience it’s often a lot lower than people expect. 

As we’ve discussed above, if you’re going to be an angel investor it’s important to think of ways to build a diversified portfolio. This means you should consider setting a ‘budget’ that lets you build a portfolio rather than just one or two shots on goal. 

There are a few good rules of thumb for determining your ‘budget’ for angel investing:

  • Identify a total amount that you want to invest over the medium term (e.g. 3-5 years), remembering that you shouldn’t expect returns from these investments for at least ten years. 
  • Bear in mind, you don’t need to have all of your intended budget set aside upfront. It will take a few years to build up your portfolio, so you don’t need to have this cash sitting around in a bank account today, just a reasonable belief that over the next few years you’d have this amount to invest.
  • Reserve 20-30% budget for follow-on investments (reserves) into your best companies (as discussed above).
  • Divide the rest by your target investment portfolio size to get your initial cheque (we’d recommend at least 10 companies, possibly more, depending on other constraints, like the time needed to meet with founders).

Once you have your initial cheque size, we recommend you stick to it. Every investor we know has had times where they’ve wanted to bet the house on a particular founder and put all of their budget into a single investment. This might be a good decision, but in our experience you really don’t know which of the companies are going to be great at seed stage, so you’re usually better off investing a standard amount and then trying to invest more over time into the companies that break out.  

👼 We've created an angel investing budget planner to help with this—click the button on the left to download it.

Disclaimer: This article contains general information only, and does not constitute legal, financial or tax advice, nor does it take into account your personal circumstances. You should always seek independent professional advice before acting on any information in this article.

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