Letter of Intent for Buying or Selling a Business
A letter of intent is the first step towards a successful business transaction and is one of the most important documents that a buyer or seller will sign. It prepares the parties for negotiation, protects their interests, and paves the way for a final purchase and sale agreement.
When properly drafted, an LOI will benefit all parties in a transaction, as it establishes a level of commitment and understanding that enables everyone to achieve their business objectives. In this guide, we’ll discuss the benefits of an LOI and significant sections for buyers and sellers.
What Is a Letter of Intent?
A letter of intent (LOI) is a document that outlines the key terms and conditions of a proposed deal or transaction. It usually includes the type of transaction, the parties involved, the purchase price, payment terms, and the closing date.
The purpose of an LOI is to serve as a starting point for negotiations between the parties before a final and detailed purchase agreement is drafted. It confirms the buyer’s intent to buy, and the seller’s willingness to sell.
Is a Letter of Intent Legally Binding?
Whether or not a letter of intent is legally binding depends on the language of the LOI as well as the actions and intentions of the parties. In most cases, LOIs are non-binding, but they can include binding provisions, such as those relating to the confidentiality of sensitive business info.
It’s highly advisable to seek legal assistance to draft or review an LOI before you sign it or present it to the other party. This will prevent you from creating or entering into an unintentionally binding agreement and can help you avoid unnecessary litigation in the future.
Validity of a Letter of Intent
The length of time an LOI is valid depends on the intention of the party presenting it, and is usually indicated in the document. The offer may be open for acceptance for 72 hours, two weeks, or any other specified time period. It can also be conditional on a specific event or action.
The receiving party needs to respond within the stated time frame for the parties to move to the next step of the transaction. An LOI can also be terminated if both parties agree to end the agreement. This is subject to the LOI’s termination clause and any binding provisions involved.
What Should a Letter of Intent Include?
A letter of intent for buying or selling a business typically includes the following:
Parties: The full legal names and addresses of all the parties involved in the transaction, including any rights that are assignable to third parties
Transaction Structure: The nature of the transaction, and whether it is a share purchase transaction, an asset purchase transaction, or a merger
Purchase price: A fixed amount or a negotiable price range, as well as payment methods and terms, and any required deposits
Assets and liabilities: A list of assets and liabilities involved in the purchase or sale
Important Dates: A proposed timeline with key dates for signing the purchase agreement, payment schedules, and targeted closing date, among others
Binding and Non-Binding Provisions: An explicit statement of the specific provisions or parts of the LOI that are binding
Conditions: A list of conditions for the successful completion of the transaction, such as satisfactory due diligence, regulatory approval, and consent of third parties
Restrictive Covenants: Agreements that aim to protect the interests of the parties, including confidentiality clause, non-compete clause, and non-solicitation clause
Termination: A clause addressing the parties’ conditions for termination, in case of mutual agreement to terminate or a failure to reach an agreement for the transaction
Letter of Intent in Commercial Real Estate
A commercial lease is a legal agreement between a landlord and a tenant to rent a commercial property, such as a building unit, for office, industrial, or retail purposes. Before entering a final contract, the parties may use a letter of intent to lay out the basic terms of the lease agreement.
The commercial lease letter of intent may include terms such as the location of the property, its size, lease term, and the rental price, including any security deposits. It may also address related details, like the availability of parking spots, and on-site amenities.
Important LOI Sections for Buyers
Share Sale vs. Asset Sale
An LOI for buying a business will often indicate the proposed structure of the transaction. In a share sale, the buyer will normally purchase all or a significant portion of the outstanding shares of the business. In this case, it’s important to note the classes and total amount of shares.
Meanwhile, in an asset sale, the buyer acquires the business’s assets and may assume a portion of its liabilities as well. The structure of the deal will have significant tax implications on both the seller and the buyer, so it should be carefully considered by all parties.
Confidentiality Agreement
In most cases, the buyer will perform detailed due diligence to gain a more thorough understanding of the business before making a decision to purchase it. Due diligence ensures full transparency between the parties and enables the buyer to assess the business’s viability.
Given the sensitive business information in the LOI and other documents exchanged during negotiations, the parties may want to enter into a confidentiality agreement or a non-disclosure agreement (NDA) to safeguard the information and make sure that it is not made public.
Non-Solicitation Provision
The letter of intent may include a binding provision that prevents the buyer from recruiting or soliciting the seller’s employees or stealing their customers if the transaction does not proceed. This is especially applicable in cases where the buyer or interested party is a competitor.
On the other hand, a buyer may also request to restrict the non-solicitation provision in the LOI so that it may be able to hire the seller’s employees through its general job postings.
Areas of a LOI that Sellers Should Know
If you’re planning on selling your business, there are several LOI provisions you should be familiar with. Carefully consider these with a trusted legal advisor before signing:
Exclusivity Clause
An exclusivity or “no shop” clause in the letter of intent prevents the seller from negotiating and soliciting offers from any other party besides the buyer for a period of time after signing the LOI.
Its purpose is to protect the buyer’s interests in the transaction against competitive bids while performing its due diligence. Penalties may be imposed if the seller breaches this agreement.
A common duration for this clause is between 60 to 90 days, although it can vary. The goal is to provide sufficient time for the buyer to complete its due diligence while allowing the seller to pursue other market opportunities if the provision ends and the transaction does not push through.
Expense Provision
A provision for expenses in the LOI usually states that each party is responsible for paying their own expenses and costs incurred relating to the proposed transaction, such as accountant fees, legal fees, travel expenses, and document fees, unless expressly stated otherwise.
Non-Compete Agreement
A non-compete agreement is a clause in the LOI that prohibits the seller from creating a competing business or being affiliated with businesses in the same industry after the sale is completed, to protect the buyer from unfair competition from the seller’s post-sale activities.
The exact length of time for this clause is typically indicated in the letter of intent.
Benefits of a Letter of Intent for a Business Sale
Starting Point for Negotiations
The letter of intent serves as a catalyst and a starting point for the sale agreement, allowing the parties to express their desires, discuss expectations, and negotiate in good faith. It encourages open communication and the exploration of options before signing a formal contract of sale.
The LOI lays the foundations of a comprehensive sale agreement covering all of the terms and conditions connected to the sale, including warranties, representations, and closing obligations.
Demonstrates Commitment of Parties
The signature of all parties in an LOI shows their mutual willingness to proceed with the transaction The goal is to give the buyer assurances that the seller isn’t shopping for potential buyers, and the seller is assured of a serious offer from the buyer.
Saves Time and Money
By immediately putting forth the main terms of the business sale agreement and establishing a timeline with important dates, an LOI creates a sense of urgency and efficiency, reducing the risk of wasting time and resources on non-priority communications and tasks.
Setting deadlines for due diligence, regulatory approvals, and legal negotiations in the LOI can ensure that the transaction keeps moving forward, and helps prevent unnecessary delays.
Addresses Issues Promptly
Another advantage of having an LOI is that major issues and potential deal breakers can be identified early and resolved promptly. This can help both parties reach a final agreement sooner and ensure that the transaction meets the targeted closing date.
Whether you’re drafting a letter of intent to sell a business or a letter of intent to buy a business, a provision for dispute resolution in the LOI can provide a clear, fair, and straightforward process for the parties to address misunderstandings, problems, and any other concerns.
Final Thoughts on LOIs
A letter of intent (LOI) is a valuable tool for parties who want to lay down the key terms of a transaction, such as the purchase or sale of a business, before diving into a formal contract.
This document usually identifies the transaction type, parties, purchase price, payment terms, and closing date of the deal. Its purpose is to set the stage for negotiation between parties and to ensure a smooth, successful, and transparent transaction.
If you have questions about buying or selling a business in British Columbia or need assistance in drafting a letter of intent, book a consult with Parr Business Law today. Our team of legal experts is ready to help you navigate your business purchase or sale every step of the way.
