A letter of intent or “LOI” is a document outlining an agreement between two or more parties before the agreement is finalized. Letter of Intents resemble written contracts, but generally are not binding upon the parties. The purpose of an LOI may be to clarify the key points of a complex transaction for the convenience of the parties, to declare officially that the parties are currently negotiating as in a merger or joint venture proposal, or to provide safeguards in case a deal collapses during negotiation.
Non-binding letters of intent for the purchase of a business or business assets should be drafted carefully and may include most or all of the following elements:
- Total compensation offered including breakdown (size of security deposit, down payment, seller-financed debt, bank debt).
- Warranties of clear and marketable title.
- Detailed list of all liabilities and assets to be purchased.
- Assurances of the validity and assumability of contracts (if applicable).
- Tax liability limitations.
- Operating condition of all equipment and machinery at time of purchase.
- Stipulations allowing buyer to adjust the purchase price in the event that: 1) undisclosed liabilities come due after settlement, and 2) actual inventory purchased does not match amount specified in sale agreement.
- Provisions that the business passes any and all necessary inspections.
- Provisions that final sale is contingent on verification of financial statements, license and lease transfers.
- Provisions that final sale is contingent on obtaining financing for purchase.
- Restrictions on business operations until final settlement.
- Non-competition and advisory clauses (these are sometimes arranged in a separate document).
- Allocation of purchase price.
- Date for settlement (may also include “drop dead” date at which both sides agree to discontinue negotiations).
- Business experts say, however, that most letters of intent are primarily concerned with delineating only the major terms of the transaction. Indeed, a small business owner who ends up negotiating numerous minor details in a letter of intent may as well skip the step entirely and proceed directly to a binding purchase and sale agreement.
Major terms that should be included in a letter of intent, however, are as follows: Total price to be paid, including down payment and installment payments, description of assets or stock to be sold, tax allocation of the price among fixed assets, goodwill, non-compete covenants, and consulting fees, and target dates for contract signing and closing. Of these components, price and payment terms are easily the most important elements of the letter.
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