What is a Letter of Intent and How to Use It

Buying a business is a big decision — but when you pull the trigger on buying an existing business, you get the opportunity to become an entrepreneur without starting a small business completely from scratch. Every year, we help many businesses change hands, and that number is expected to increase in the next several years as millions of baby boomers begin retiring and selling their businesses.  One important step in the process of buying a business is negotiating and drafting a letter of intent (LOI) to outline the terms of the proposed purchase. 

LOI: The Basics 

A letter of intent is a non-binding document that sets forth the key terms and conditions of the proposed transaction. While it is not a legally binding contract, it serves as a roadmap for the parties to negotiate the final purchase agreement. A LOI typically outlines: 

• The structure of the transaction 

• Them monetary terms and any financing contingencies 

• The definitive agreements that will be negotiated and signed 

• The most significant non-monetary terms of those definitive agreements 

A LOI may also contain provisions governing confidentiality, due diligence rights and reimbursement of one party’s expenses by the other. Often such provisions are made explicitly binding, while the rest of the LOI remains nonbinding (which means that those promises are not enforceable). Even though much of the LOI is not binding, it still provides a detailed road map for the definitive documents and tends to prevent later renegotiation. 

Key Considerations 

Here are some key considerations to keep in mind when negotiating and drafting a letter of intent to purchase a business: 

1. The Dealbreakers

Negotiating a LOI often identifies “deal breakers” early in the process. Forcing the parties to confirm agreement on important terms early on, even in a nonbinding document, sometimes reveals that no agreement is in fact possible – that a certain right or obligation that one party demands is unacceptable to the other. In that case, the parties can terminate negotiations after incurring only minimal cost. Drafting lengthy and complicated definitive documents can be an expensive step, so if there are disputed points that cannot be reconciled, it is far better to reveal them early on. 

2. The Money

Clearly outline the purchase price and payment terms: One of the most important aspects of the LOI is the purchase price of the business. This should be clearly outlined, along with any terms regarding payment, such as whether the purchase will be made in cash, stock, or a combination of both.     

3. Timeline

There are a number of important timelines in any deal.  Obtaining a commitment for financing; a timeline for due diligence and a deadline to close the deal.  Its common for inexperienced parties to underestimate the amount of time it takes to close on the purchase of a business.  Due diligence is the process of investigating the business to ensure that the buyer is making an informed decision. The LOI should include a timeline for completing due diligence, including access to financial records, contracts, and other important documents. 

4. Contingencies

The LOI should also address any contingencies that need to be satisfied before the purchase can be completed. This could include obtaining financing, obtaining necessary approvals, retention of key employees or other conditions that need to be met. 

5. Confidentiality

It is important to include confidentiality provisions.  The target business often does not want the fact that it is for sale to be disclosed to its employees for fear that they’ll get nervous and leave.  An impending sale can also signal to customers or competitors that there are problems with the business.    The LOI also protects sensitive information about the business being purchased. This can help prevent competitors from gaining access to proprietary information. 

Consult with Legal Counsel  

Whether you're a buyer or a seller, a business lawyer can help you navigate the transaction and any potential legal issues that arise during it. They can represent your interests during the negotiation process and ensure all sale documents are drafted correctly and legally binding. Our experienced business attorneys will ensure you have fully considered all the legal and financial matters that must be addressed or may arise in a purchase or sale of a business.  If you are considering purchasing a business in Pennsylvania, contact our firm today.