A Seller's Perspective on the Letter of Intent

Receiving a draft Letter of Intent ("LOI") from a prospective buyer of your business can feel like a major milestone, but an LOI is more than a simple expression of intent. It is the blueprint for the entire deal that follows. The terms in the LOI will guide the purchase price and payment, due diligence, the drafting of the purchase agreement, the transaction structure, the closing timeline, post-closing transition, and the obligations each party must satisfy along the way.

Sellers often say they are not overly concerned about the LOI because it is non-binding (more on that below), but that attitude reflects a lack of understanding of the impact an LOI has on the transaction. Before you sign an LOI, take time to understand what it says and how it will impact the transaction process. The more thoughtful you are at this stage, the smoother the rest of the transaction will be. A well-drafted LOI can avoid surprises when drafting and negotiating the purchase agreement and ancillary closing documents.

Here are some key items a seller should focus on when reviewing a Letter of Intent:

Purchase Price and Deal Structure

The LOI should clearly state the proposed purchase price, assumptions on which the proposed purchase price is based, and how the buyer intends to pay the purchase price.

Consider the following:

• Will the buyer pay the entire purchase price in cash at closing, or is the buyer proposing a seller note, earnout, or other contingent component?

• If the buyer is proposing a seller note, what terms are they proposing (e.g., interest rate, payment period, subordination, standby)?

• If the buyer is financing the purchase, what type of financing is anticipated? For example, SBA financing can impact some other aspects of the transaction.

• Are there holdbacks or escrows, and if so, how long will they remain in place?

Also consider the deal's structure. Is the buyer proposing an asset purchase or an equity purchase? The structure influences taxes, liabilities, consents, and post-closing obligations. Make sure you understand which structure benefits you and how the LOI reflects it.

Key Deal Terms That Affect Your Net Proceeds

The purchase price is only part of the story. Look for terms that could change your net proceeds, including:

• Working capital or inventory adjustments.

• Required capital expenditures before closing.

• Credits, prorations, or adjustments.

• Indemnification obligations or caps that may affect your exposure after closing.

Due Diligence

The LOI will grant the buyer a time period to investigate your business in depth. Pay attention to:

• How long the due diligence period lasts.

• Any restrictions that protect you, such as limits on customer or employee contact.

Your goal is to permit what the buyer reasonably needs while protecting the business if the deal does not close.

Exclusivity

One of the primary benefits to a buyer in an LOI is the seller's agreement to deal exclusively with the buyer. An LOI will include an exclusivity clause, sometimes called a no-shop provision. It prevents you from negotiating with other buyers during the exclusivity period. This is a significant concession because you are taking your business off the market. Make sure the length and scope of the exclusivity period are reasonable.

Conditions to Closing

Conditions to closing identify what must occur for the transaction to be completed. Common conditions include financing approval from the buyer's lender, the buyer's satisfactory completion of due diligence, assignment of key contracts, obtaining required consents, leasing property, retaining or employing key employees, and negotiating mutually acceptable documents.

Treatment of the Seller's Employees

If you have employees and care about how the buyer will treat them in connection with the sale, the LOI should outline the buyer's plan for them. Will the buyer offer employment to your team? Will compensation or benefits change? How will accrued vacation or PTO be handled at closing? Uncertainty on these issues can create stress for you and for your employees, so it is better to address them early.

Confidentiality

The LOI should either include a provision that requires the buyer to maintain the confidence of your confidential information or incorporate by reference a non-disclosure or confidentiality that the buyer and you have previously signed in connection with the proposed transaction. Make sure the confidentiality provisions protect all the information you will provide to the buyer, whether before, during, or after the due diligence period, including your financial information, customer relationships, supplier relationships, and other sensitive details.

Identify Which Provisions are Non-Binding and Which are Binding

Most provisions in an LOI should be non-binding, with the exception of a few that are binding. Make sure the LOI states clearly which sections bind the parties and which do not. Customarily, the LOI should clearly indicate that only the exclusivity, confidentiality, and governing law provisions are binding. You do not want the buyer to argue that you have already agreed to specific binding legal obligations before negotiating the purchase agreement.

An Alignment of Expectations

A well-drafted LOI sets expectations for both sides. It should eliminate surprises during the preparation of the definitive purchase agreement. If you are unclear about the buyer's expectations or if the LOI feels incomplete, pause and seek clarification. Ambiguity in the LOI increases the risk of later conflict and dissatisfaction, which might jeopardize the transaction and erode trust.

Final Thoughts

Signing an LOI is an important and essential milestone, but it is not the finish line. The LOI is the framework for the transaction that follows. Before you commit, make sure the LOI reflects your goals, protects your interests, and positions the rest of the deal for success. This is the time when an experienced mergers and acquisitions lawyer can add tremendous value by spotting risks and helping you negotiate clearer terms.

About the Author

Joel Ankney is The Sell-Side Lawyer. He leverages more than 30 years of experience to help business owners throughout the USA navigate the process of selling their businesses, so they can extract the wealth they have created and move confidently to the next stage of their lives.

Joel loves to talk about business deals. If you want to explore selling your business with Joel, you can contact him at joel@sellsidelawyer.com.