Every story has to start somewhere. When buying or selling a business, the journey usually begins with a well drafted letter of intent.
A letter of intent or LOI sometimes also called a memorandum or letter of understanding or term sheet reflects the parties general understanding as to the principal terms and conditions upon which the parties will attempt to negotiate an agreement of purchase and sale. A letter of intent can be wholly binding or non-binding or contain both binding and non-binding provisions. In the hybrid version, the LOI will clearly state that it does not or will not create any legally binding obligations nor impose any liability except for certain defined matters such as confidentiality, exclusivity, and termination all of which are clearly set out in the LOI.
It is often desirable for a purchasing party to take the lead in preparing a letter of intent following preliminary discussions with a proposed selling party as to contemplated terms and conditions of the proposed transaction once the parties feel that they have the basis of a deal. Of critical importance is the need to specify in clear and unambiguous language those provisions which are non-binding so as not to create any obligations or impose any liability on the buyer or seller.
While the LOI can take many forms, consideration should be given to identifying the non -binding provisions. A good practice is to consider the creation of a separate heading entitled NON-BINDING PROVISIONS and state clearly that these provisions do not create any legally binding obligations or impose any liability on the parties. A similar heading would follow and be added for BINDING PROVISIONS. Non- binding provisions would typically address the fundamental transaction itself, such as the purchase and sale of shares or the purchase and sale of all or a portion of assets of target company, identify the purchase price and payment terms and also address issues such as working capital thresholds and adjustment mechanisms, escrow and hold back arrangements and time frame for due diligence by buyer and the timing for completion of the transaction. Other matters typically covered in the non-binding provisions include employment matters and sellers non -competition and non -solicitation covenants post-closing, to name just a few.
Certain binding provisions would be introduced into the LOI including confidentiality provisions in anticipation of the buyer’s conduct of due diligence investigations prior to completing the sale transaction. A buyer will want a period of time to complete its due diligence and during this period may also wish to have an exclusivity or “no-shop “provision prohibiting the seller from further negotiations or communications with another potential buyer. The buyer will also seek a commitment from the seller that it will agree to carry on business in the normal course. Both parties will also want termination and responsibility for costs addressed.
In summary, a well drafted and negotiated letter of intent will serve to identify deal issues and minimize the cost of preparing a definitive purchase and sale agreement until greater clarity is achieved through diligence review and negotiation process.
This blog post was written by Paul Salvatore, a member of the Business Law team. Paul can be reached at 613-369-0373 or at paul.salvatore@mannlawyers.com.
