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Letters of intent (“LOI”) are useful tools when San Diego businesses are in the process of negotiating a complex transaction. The letters of intent are often used to summarize points that have been agreed to and are revised many times during the process. One can think of a letter of intent as an agenda and also as a place holder of sorts when the agreement/ratification of others is required. Think, for example, of various management-level employees coming to a tentative agreement that, with respect to each business, must be approved by the respective boards of directors. In that circumstance, a letter of intent describes the proposed deal until all the approvals are obtained.
However, when using a letter of intent in this manner, it is important to include language to eliminate any binding effect of the letter of intent. This must be done in two ways:
- Language clearly stating that the terms of this letter of intent are NOT BINDING and
- Language clearly stating that the letter of intent cannot be used in a court of law for evidence purposes
The first is needed for obvious reasons. If the letter of intent is not intended to be binding on either party, then language stating that fact needs to be in the letter of intent. As a practical matter, no signature lines should be included and, obviously, no signatures or initials should appear anywhere on a letter of intent.
The second is a bit more non-intuitive. Begin with the idea that, under California law, contracts do not always have to be in writing. To be enforced by a judge, there must have been an offer, acceptance, some form of value exchanged, and the parties must have come to a meeting of the minds on what the obligations of the parties were to be. This is where a letter of intent, while not binding on its face, could be used as some proof of an oral contract or a contract made-by-conduct. The party seeking enforcement will argue that there was an oral offer and acceptance and that the terms of the oral “agreement” can be discerned from the letter of intent.
To avoid this, the letter of intent should state on its face — on each page — “FOR NEGOTIATION PURPOSES ONLY.”
San Diego Corporate Law: Avoid Hybrid Letters of Intent
Some suggest that hybrid letters of intent are acceptable. A hybrid contains clauses and provisions that are binding along with provisions that are still under negotiation. A good example would be nondisclosure and confidentiality clauses, which everyone intends to be binding, in the same letter of intent as other terms and conditions still being discussed.
A hybrid letter of intent is not the best vehicle legally speaking. It is preferable to separate out the binding provisions into a separate free-standing contract that is actually signed by the relevant parties and persons. This is the better practice for several reasons:
- The separate agreement can be enforced on its own terms
- The separate agreement will not have language stating that this is not binding or “for negotiation purposes only” — this removes a defense argument and a defense mechanism for confusing and prolonging the litigation
- Two documents — a binding agreement and a non-binding letter of intent — is efficient since all parties can easily see what has been agreed to and what remains pending
- If litigation ensues, the legal process is more efficient since the stand-alone document will not have extraneous non-binding provisions and verbiage
Contact San Diego Corporate Law
For more information, contact attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard can be reached at (858) 483-9200 or via email. Mr. Leonard was recently named a “Rising Star” by SuperLawyers.com for 2018. Mr. Leonard has received that honor for the past four years.
Mr. Leonard focuses his practice on business law, transactional, and corporate matters, and he proudly provides legal services to business owners in San Diego and the surrounding communities.