Striking a deal to buy or sell a business is exciting, and a letter of intent (LOI) is an important early step. Get it right and you position yourself for a successful transaction. Get it wrong and you risk misunderstandings or worse. Here are some best practice tips to get your transaction off to a strong start:
1. Personalize for a Friendlier Approach
A letter of intent can come off as dry and formal. As a buyer, you can differentiate yourself by making it more personal. Lead with what you admire about the business, including recent growth, a strong team, or a compelling product or service. Use clear, straightforward language that businesspeople will understand, including your description of the deal structure and tax treatment. Avoid excessive use of defined capitalized terms. If you are buying Acme, Inc. you can just call it Acme, there is no need to define it as (“Acme”). Additionally, break up long, complex sentences for readability.
2. Seller’s Big Opportunity
As a seller, your leverage is at its peak just before signing the LOI. The final price almost never goes up and sometimes goes down. If a deal term is important to you, now is the time to include it in the LOI. For example, if you want tight limits on the buyer’s ability to make a claim against you after closing, you can specify that upfront. Work with your advisors to identify and prioritize key terms for your specific deal.
3. Clarity on Price and Deal Structure
Your LOI should answer the questions that matter most:
- What is being purchased? Is anything being excluded?
- What is the price?
- Does the cash stay with the business?
- What happens to the debt and other liabilities?
Buyers often require that businesses have a normal level of working capital at closing (details to be worked out in the definitive agreement). If the deal contains any deferred purchase price or an earn-out, make those terms as clear as possible.
4. Address Due Diligence
Your LOI can identify key focus areas for due diligence. Streamlining the diligence request list to focus on the target business can keep things moving. A concise, tailored list often works better than a 15-page, 200-item checklist that slows things down.
5. Exclusivity
As a buyer, once you invest time and resources in a deal, you will want exclusivity. This is an agreement that the seller won’t pursue other offers for a set period. Sellers on the other hand want flexibility if a deal stalls. Exclusivity periods typically range from 30 to 90 days, depending on the transaction.
6. Map Out Timelines
Sellers want to know how long it will take to reach closing. Buyers can differentiate themselves by moving things along with a brisk timeline. Including intermediate milestones such as due diligence delivery or completion of site visits can keep both sides aligned.
7. Non-Binding LOI and Avoiding the Accidental Deal
An LOI is a key step, but it is not the final binding deal. Both parties should state clearly that the LOI does not create a binding obligation to complete the deal. Courts have sometimes ruled that LOI’s, term sheets, or memorandum of understanding constituted binding agreements, especially when phrased as commitments. Avoid working with terms such as “shall purchase” or “will acquire,” which may imply obligation. Use softer terms like “propose” or “intent.”
Some terms should be binding on both parties, such as confidentiality, exclusivity, expense allocation, governing law, and the paragraph about it being nonbinding. Your lawyer can provide language to make it clear what is non-binding.
8. Terminating an LOI
A good LOI will state that either party can terminate negotiations at any time before signing a definitive agreement. It should clarify which provisions survive that termination, such as confidentiality.
With careful drafting, an LOI will do what it’s meant to do: lock down key terms and provide a clear roadmap to closing. Contact your Varnum attorney to prepare or review your LOI to ensure clarity and protection.
