Parties to a potential business transaction often memorialize the agreed-upon terms in either a letter of intent (“LOI”) or term sheet. The LOI is typically more formal than the term sheet, but they serve the same overall purpose: outline the basic terms of the deal. The LOI can be as detailed or vague as the parties desire. It will usually contain a basic description of the transaction (i.e., lease of property, asset sale, etc.), the economic terms, and other material information such as exclusivity, confidentiality, and contingencies. This article will provide you with some practice tips to follow when preparing an LOI, as well as highlight common mistakes to avoid.
Binding vs. Non-Binding. As a general rule, the LOI does not create a binding obligation to consummate the transaction. However, certain language, if included in the LOI, may create enforceable legal obligations on the parties. For example, the LOI may state that the parties will “negotiate in good faith” or “use best efforts” to complete the deal. These phrases likely create an obligation for the parties to take all reasonable steps to consummate the transaction.
The draftsperson of the LOI should include a clause which clearly lists the provisions in the LOI that are binding, as well as a catch-all clause which indicates that the LOI does not create any binding obligations on the parties unless specified in the document.
Request a No-Shop Clause. The buyer in the transaction should request a binding “no-shop” or exclusivity provision. This ensures that the seller may not seek out or negotiate with other potential buyers for a specified period of time. A seller who is unwilling to give this protection to the buyer may be more likely to walk away from a deal.
Ensure Confidentiality. During the due diligence process the parties may become privy to confidential business information. If the deal falls through, this confidential information could be exposed by a scorned buyer or seller. The LOI should include a binding confidentiality clause to ensure there are legally enforceable protections in place in the event of a release of such information.
Non-Solicitation of Customers and Employees. The seller should include binding non-solicitation provisions which cover both employees and customers of the seller. As mentioned above, the buyer often obtains confidential information about the seller’s business. Non-solicitation provisions would prevent the buyer from hiring the seller’s employees for a specified period of time or soliciting customers of the seller whose identity was obtained during the due diligence process.
Save Time and Expense. Various terms of the deal can be “pre-negotiated” during the LOI phase to avoid disagreements or misunderstandings later in the process. For example, the parties may agree to terms relating to non-competition, intellectual property, or indemnity. If the parties cannot agree on certain terms early in the process, then the deal may not be feasible or sensible. The sooner the parties know a deal won’t happen, the better.
The practice tips covered by this article are not exhaustive. Each deal is different—some require more detailed LOIs or additional protections. Engaging an experienced lawyer to assist in the preparation of the LOI saves time and money by ensuring adequate legal protections are in place and improves the lawyer’s efficiency in preparing the formal transaction documents.
Please contact Catania, Mahon, and Rider, PLLC if you are a prospective buyer, seller, lessor, or lessee.