A Letter of Intent, often referred to as a non-binding letter of intent, summarizes a possible agreement between a buyer and a seller. As suggested by the name, a letter of intent expresses the intention of one party to do business with another party before the finalization of any legal agreement – an “agreement to agree”, so to speak.
The first step to formalizing any business merger or acquisition is to obtain a Letter of Intent from the prospective buyer. And while the document may have many non-binding provisions, it may have binding provisions and should signal a serious commitment between the parties involved, particularly the buyer. A letter of intent is essentially an official declaration that you are negotiating with other parties on the possibility of doing business together.
The document outlines the terms of a proposed deal, thereby preventing misunderstandings and minimizing waste of time and resources as you move forward towards closing the transaction.
What is the Purpose of a Letter of Intent?
Aside from officially declaring your commitment to do business with another party, a Letter of Intent serves other essential purposes, including the following:
- Defines the key deal structure, e.g., merger, asset sale, stock purchase
- Records the progress of preliminary negotiations
- Highlights and clarifies the key points to be discussed later during due diligence
- Outlines what role the seller will have in the company post-closing
- Encourages the buyer to obtain financing from a lender
- Defines an “exclusive period” whereby the seller cannot negotiate with another buyer
- Spells out significant points such as timelines, deliverables, deadlines, and contingencies to enable the negotiations to move forward in a predictable manner
What to Include in a Letter of Intent?
There are many ways to write a Letter of Intent depending on the type of transaction you are contemplating. While there may be no “wrong” way, there are several key elements that should be included. Here are the key components of a Letter of Intent that you should consider:
- Introduction or statement of purpose – The introduction of a LOI (Letter of Intent) is simply the opening paragraph that describes the purpose of the document. It also identifies the parties involved and their respective roles. The introduction may also define the different terms used in the LOI and state the date the document becomes effective.
- Type of transaction – In this section, the letter describes the type of transaction or business deal the parties intend to negotiate. It defines whether the business deal is a merger, acquisition or a joint venture. It may also include the purchase price, how the price will be paid (cash down, third-party financing, and seller financing), and may be subject to change as both parties are still negotiating and performing due diligence.
- Contingencies and conditions – Any business transaction has several contingencies and conditions that guide how the negotiations will take place. Both the buyer and the seller can provide a list of contingencies that are vital to the negotiations. Contingencies commonly include the buyer obtaining financing, review of financials, interviews of key employees, visits to the “physical plant”, and agreement on the ultimate legal documents that formally memorialize the deal.
- Due diligence – Before entering into any deal or agreement, you should carry out a comprehensive business appraisal to establish information about any undeclared assets and unknown liabilities. It may involve carrying out background checks, verifying financial documents and validating legal documents.
- Timelines – A Letter of Intent should have clear timelines that guide current and future negotiations. All parties should set deadlines to ensure that the talks go on predictably.
- Other binding agreements – While the LOI may be a “non-binding” document, it is still a contract and may have binding provisions. Meaning, the parties may agree to include binding sections within the LOI, such as restrictions on sharing or using information from the negotiations for other unrelated purposes.
What To Do After Receiving a Letter of Intent
After receiving a Letter of Intent, you should go through it thoroughly and suggest any changes to the content before returning it to the prospective buyer. The buyer can either agree or disagree with the changes and then return the letter to you. Once you decide on the content, you are expected to sign the letter to indicate your readiness to begin negotiations.
A Letter of Intent may not be a binding document, but it lays the foundation for constructive and fruitful negotiations between business parties.
If you need any help crafting a high-level letter of intent, contact us at Private Practice Transitions. Our certified business brokers will guide you through the process from start to finish, answering any questions that may arise. Call us today at (253) 509-9224 or contact us online to learn more.