The Main Reasons to enter into a Letter of Intent (“LOI”) are:
1. Saving time and money by negotiating and putting in writing all the major terms of the transaction while minimizing misunderstandings and conflicts later in the process. Without having a basic understanding of all the terms of the transaction in an LOI, drafting a detailed purchase agreement can be lengthy, difficult and expensive. LOIs usually are 5 to 7 pages in length whereas a Share Purchase Agreement is generally much longer (50 to 100 pages including schedules).
2. Exclusivity an experienced buyer will not spend considerable time and money proceeding into due diligence, analyzing all the information on the company, engaging a professional accountant for tax advice and a lawyer for drafting purchase documents unless they have an exclusive right to purchase the company (exclusive due diligence for a reasonable period of time).
3. Financing: the Letter of Intent is a practical intermediate step which helps the transaction move forward without either party incurring significant professional fees until they have satisfied certain conditions – such as financing. Most financial institutions require a Letter of Intent as a minimum before they will provide a binding financing term sheet. The explanation for this is fairly obvious – until the financial institution knows the terms of the transaction (price and payment terms) it would be difficult if not impossible for them to provide a binding financing term sheet.
4. Confidentiality: while the LOI is typically considered a non-binding agreement, it often includes certain provisions that are binding on the parties, such as confidentiality. This provision serves to protect the interests of both parties and prevents either party from engaging in actions detrimental to the deal.
5. Clarity and Understanding: A well-drafted LOI lays out the key terms and conditions of the proposed transaction. Buying or selling a business is complex - therefore clarity and commitment are vital It provides a clear understanding of the buyer's intentions, including the price offered, proposed payment terms, Due Diligence period, Closing Date, Non-Competition etc.
6. Commitment and Good Faith: By signing the LOI, both parties demonstrate their commitment to pursuing the transaction in good faith. While not legally binding in its entirety, the LOI creates a moral obligation for the parties to negotiate in earnest and strive towards reaching a definitive agreement. This commitment fosters trust and collaboration, essential elements for a successful business transaction.
The Practicality of the Letter of Intent.
Almost all of our transactions typically begin with a non-binding Letter of Intent. Should the Letter of Intent be accepted by the Vendor then the prospective purchaser is normally provided with an exclusive due diligence period for a reasonable period of time (i.e. 45 to 60 days). Should the prospective purchaser satisfy their due diligence including financing, then they will engage their lawyer to prepare the formal Share Purchase Agreement which will be based on the terms set out in the accepted Letter of Intent. At this stage in the transaction, the Business owner is usually now much more comfortable engaging their own professionals to assist them, knowing:
- Purchaser is confident of their financing,
- Purchaser has satisfied most if not all of their due diligence
- The parties have already agreed upon the major terms of the transaction as outlined in the Letter of Intent.