Understanding the Letter of Intent in Business Transactions

When negotiating the sale or acquisition of a privately held business, the Letter of Intent (LOI) is often the first formal document exchanged between the parties. While typically non-binding, the LOI outlines the preliminary terms of a transaction and establishes the framework for moving forward with due diligence and definitive agreements.

“Understanding what goes into an LOI, and its implications for both buyers and sellers, is critical to managing expectations, mitigating risk, and ensuring the process moves forward efficiently.”

 

Key Commercial Terms: Reflecting Preliminary Intentions

Although not legally binding, the commercial terms outlined in the LOI form the basis of the parties’ mutual understanding. These include:

• Transaction Structure: Whether the deal will take the form of a share or asset purchase. Buyers may prefer an asset deal for its ability to isolate liabilities, while sellers often favour a share sale for potential tax advantages.
• Purchase Price: The proposed consideration, including whether the price is fixed, subject to adjustment, or includes deferred components such as hold-backs or earn-outs.
• Payment Terms: Timing and structure of payments, including any post-closing adjustments for working capital.
• Non-Competition and Transition Support: Proposed non-compete clauses and the seller’s role (if any) post-closing to facilitate operational continuity.

Buyers may include language to preserve flexibility in structuring the acquisition and securing exclusivity, while sellers may look to clarify the treatment of liabilities, payment security, and scope of post-sale involvement.

Binding Provisions: Protecting the Process

Although the deal itself is typically non-binding at the LOI stage, certain provisions are usually intended to be binding to protect the integrity of the transaction process:

“Clearly identifying which provisions are binding and which are not is essential to avoiding disputes or misunderstandings as negotiations progress.”

 

Why Legal Guidance Matters

While an LOI may seem preliminary, its terms can have significant downstream consequences. A well-drafted LOI can:

• Set the tone for negotiations.
• Reduce the risk of misunderstandings.
• Encourage timely and focused due diligence.
• Support enforceability of critical process terms (e.g., exclusivity, confidentiality).
• Align expectations early, avoiding friction during definitive agreement drafting.

Conclusion

The Letter of Intent is a pivotal document that lays the groundwork for a successful business transaction. While largely non-binding, it sets the commercial and procedural roadmap for what follows. Both buyers and sellers benefit from approaching the LOI with clarity, strategic foresight, and legal advice to ensure that their interests are safeguarded from the outset.

For tailored guidance on LOIs and business transaction structuring, contact our Business Group at Boughton Law.