M&As: The Letter of Intent

After signing a non-disclosure agreement (NDA) at the beginning of a merger and acquisition (M&A) transaction, the next step is for the buyer to produce a detailed letter of intent (LOI). This letter outlines the major terms of the transaction.

In essence, the LOI is a formal document that states the buyer’s proposed purchase price, terms, and other important details to the deal. It must be agreed upon and signed by both parties before the period of due diligence begins. A LOI displays to both parties that there is serious intent for the deal to go through.

Terms outlined in the LOI include both binding and non-binding clauses. In addition to laying the groundwork for the transaction, the LOI also allows both parties to work through any potential obstacles that could become deal-breakers later. This can save legal costs by establishing terms early.

It is worth noting that each M&A is unique and no one form fits all situations. There are cases where skipping the LOI and going straight to negotiating the final transaction documents make sense.

Generally speaking, an LOI is a non-binding agreement, because there has been no due diligence period, and the buyer has limited information about the business being purchased. However, some provisions in the LOI are specifically written to be legally binding, and once the LOI has been signed by both parties, those can provide some protection for the affected parties.

Common Binding Clauses:

Exclusivity: Often referred to as the “no shop clause,” exclusivity prevents the seller from soliciting other offers from other potential buyers. The length of time varies based on the size of the transaction and is expected to be enough time to complete due diligence and negotiate the underlying purchase agreement.
Confidentiality: This clause could simply remind both parties that the details and terms of the LOI and information exchanged in due diligence are subject to the NDA already signed. If no NDA has been signed, this clause restricts the disclosure of any confidential information shared by both parties.
Beneficiaries: The LOI is not intended to confer rights other than the buyer and the seller.
Governing Law: This provision defines the legal jurisdiction that governs any potential disputes.
Expense Allocation: This clause is often included in a LOI to dictate how expenses (legal fees, regulatory filing fees, etc.) will be allocated between the buyer and seller.
Good Faith Negotiations: The parties will engage in good faith negotiations and bad faith or intentional activities to sabotage or undermine deal can be a breach.
Termination: Typically, this provision allows either party to walk away from the deal without any obligations by providing notice. This can include provisions that both parties need to agree to the termination. It’s important to note that some of the binding provisions of the LOI remain in effect even after termination.

Common Non-Binding Clauses:

Transaction Description: Typically one of the first items included in an LOI, this details the structure of what’s being purchased (assets, merger, stock sale, etc.) and whether any rollover equity will go to the seller, or any other post-transactional events will occur.
Price and Payment Terms: In addition to the purchase price the buyer is offering, the type of payment and timeline should also be thoroughly explained. For example, a buyer may be offering a percentage of cash at closing followed by post-closing payments. This is also a place to cover any potential post-closing payment contingencies, or escrow terms, etc.
Assumed Liabilities: Any liabilities assumed by the entity being acquired should be fully disclosed as part of the complete transaction structure.
Due Diligence Timeline: This clause describes the time period allotted for due diligence, and should include any details about access to employees, vendors, suppliers, etc., as well as any limitations on that access and a list of who may be contacted.
Noncompete & Non-Solicitation: considered controversial in some cases, a noncompete and non-solicit protects the value of the business upon the sale being finalized prohibiting the seller from starting a competing business while a non-solicit prohibits the hiring of the employees.
Closing Details: Important specifics about the closing should be outlined here, such as any regulatory approvals that may need to occur, or third-party consents. In addition, the expectations for handling any NDA conditions or non-competition agreements can be detailed, as well as expected closing timeline and any other important considerations by both parties.
Escrow Provisions: This clause summarizes the distributions of funds and the timeline of when those funds will be eventually distributed to the seller as long as no post-closing claims are made.

Carefully crafting a LOI is well worth the time and expense for both parties, as it lays the groundwork for the transaction and ensures that both buyer and seller have a mutual understanding of the key terms and conditions. It’s also a strong measure of protection in the event that the deal falls through.

Seek the advice of an experienced attorney.

Whether you’re interested in buying a business, or have been approached by a potential buyer, Hackstaff, Snow, Atkinson & Griess has the expertise in complex business transactions and M&As to help you navigate the process. Contact us today for a free consultation.