A Guide to Letters Of Intent

If you’re considering the sale of your business, or possibly the acquisition of another competing business, it’s important to understand the selling/buying process. An often overlooked and important first step during the process is the negotiation of certain terms the buyer and seller will ultimately agree to at the closing table after the due diligence phase of the process is completed. 

If either party ignores the importance of the initial terms’ negotiations, they can end up with a bad deal or worse, no deal at all. This post is intended to help both business sellers and buyers understand the significance of the early negotiation phase and how a well-drafted Letter of Intent (LOI) is vital to the deal process. 

Before we jump in, it’s essential to make the point that a Letter of Intent is not something you should create yourself, without legal counsel. There are numerous ways a buyer could go wrong if they draft the LOI without proper legal advice. 

What Is A Letter of Intent?

A Letter of Intent is a legal document that is proposed by the business buyer and ultimately agreed to by the seller. The LOI is drafted in the form of a business letter which includes a space on the last page of the document where the business seller would acknowledge their acceptance. It’s not unusual for an LOI to be drafted by the buyer and then its terms be negotiated and changed by the business seller prior to their signature.  Of course, both parties must agree to any edits to the LOI in order for the LOI to be valid.

While a business broker generally doesn’t write an LOI, it’s drafted by a legal team, they understand them and can guide their client through LOI negotiations. Brokers are advisors along every step of selling a business, they will warn of the risks involved with LOIs and suggest ways to minimize unfavorable results.

Why Should I Use An LOI When I Am Buying or Selling My Business?

There are several reasons for using a Letter of Intent when acquiring a business.  

For most buyers, their time is important to them. Time is money. There is no better way to expedite the decision process whether to proceed or not to proceed with a potential deal than to negotiate the LOI. Negotiating the terms included in a Letter of Intent can help the parties identify key terms in the deal as well as the deal breakers. Why not determine as many of these possible matters sooner than later?

Similarly, for the business seller, time is of the essence. Having a business on the market for a prolonged period of time is never good for the business owner. Selling a business takes an enormous amount of time and financial resources and can be very distracting to the business owner. For this reason alone, anything that can be done to expedite the selling process should be considered carefully.

Is a Letter of Intent Legally Binding?

While a LOI is a legal agreement between two parties, it is not typically a binding agreement. However, within the LOI document, commonly you will find certain terms that are binding for both parties. This is an important point to understand and worth further exploration.

Most LOIs will include intentionally binding provisions such as the exclusivity period for negotiations of the final purchase agreements, confidentiality and non-solicitation, expense allocation, targeted closing date, and the governing law or venue. 

What Happens After the LOI is Signed?

The acceptance of the Letter of Intent by both parties marks the time when the due diligence phase begins. The due diligence phase is when the real work happens. And that’s when most deals fall apart.