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What is a Letter of Intent?

In general, a letter of intent is a shortened version of a longer contract that is expected to be written covering all the aspects of a complex deal. Sometimes, the letter of intent can become the actual final contract and, if all the legal requirements are met, such a letter of intent will be enforced in a court of law. This is often referred to as a “binding” letter of intent.

But more often, the letter of intent is the working version that allows the parties to work through each of the necessary parts of a complex deal. The parties expect the letter of intent to be “merged” into the larger to-be-written-in-the-near-future final formal contract. This is often referred to as a “non-binding” letter of intent, or it may be called a “memorandum of understanding” sometimes. As the name would imply, the desire is to eventually agree to a formal contract, but while we are negotiating, we will prepare a non-binding list of the “understandings” that expedites the negotiation and drafting process.

Why Use a Letter of Intent?

There are two basic reasons to use letters of intent: (1) a binding letter of intent may be used to secure a deal by fixing the important terms without having to hash out the details; and (2) a non-binding letter of intent may be used to hash out some important deal terms quickly and without the expense of a full contract negotiation without committing to the deal prior to due diligence.

Imagine you go to a trade conference and have dinner with someone in your industry. He or she says: “Hey, I would like to partner up with you and your business for this great project.” You say: “Great, let’s write out some ideas.”

Now, on some napkins, you and your out-of-town colleague write a few key points like:

  • What is the project?
  • Who will own what part of the project?
  • Who will provide funding?
  • What is the expected return on investment?
  • What is the expected length of the joint project?

At this point, you both are clear that nothing is binding and dinner conversation moves on to other topics. On Monday, you both send off the napkins to your respective lawyers and they work up a two or three-page letter of intent, which is circulated.

In one scenario, after everyone looks at the draft letters of intent, everyone realizes that the idea will never work. As such, the letter of intent provided a method of exploring an idea AND provided a method of avoided investing too much time in what upon further review turns out to be a bad idea.

In an alternative scenario, everyone sees potential and everyone begins fleshing out and detailing various aspects of the project through drafts and re-drafts of the letter of intent. Eventually, the two-page letter of intent becomes a formal 100-page joint venture agreement.

Make Some Provisions Binding Early in the Letter of Intent Drafting Process

Usually, a letter of intent is expected to be non-binding until agreement is reached on all the various aspects of the deal. However, as we discussed in an earlier article, if a letter of intent is being used as a “work-up” to a larger complex deal, certain parts of the letter of intent should be made binding very early in the process. These include provisions for:

  • Confidentiality: Everyone agrees to keep information confidential during the exploration phase AND afterwards whether the deal “flies” or if the deal “dies”;
  • Nondisclosure: Same regarding information, but also everyone should agree to nondisclosure concerning the deal itself and what one party or the other was willing to agree to;
  • Non-disparagement: If the deal is not consummated, the parties should agree up front to part amicably;
  • No-Shop exclusivity: Parties should agree to not shop-the-deal-around to other potential contracting parties (at least until it is clear that the deal will not fly).

Other Letter of Intent Uses: Simple Agreements

Letters of intent can be useful for speed and cost efficiency when the deal itself is not complex. Here, the letter of intent is intended to be the final contract. As an example, assume that the parties have agreed to a simple assignment of some lease agreement or lease rights. The lease itself is complex, but all the parties want to do is to assign the lease with a few key components. A letter of intent will be quick and cost-effective. And here the letter of intent is expected to be the final enforceable contract. If the legal requirements are met, a contract is enforceable even it is called a “Letter of Intent.”

Other Letter of Intent Uses: Parties With History and Course of Dealings

In a similar manner, letters of intent can be useful for speed and cost efficiency when the parties have built up trust among themselves through a history and a series of successful course of dealings. In general, business moves fast and, sometimes, long complex contracts can get in the way of getting the deal done. Quick and simple letters of intent can facilitate this particularly when the parties have trust in each other.

You Still Should Consult a Lawyer Regarding Letters of Intent

All contracts and agreements should be reduced to writing by a lawyer even if the writing is only a short letter of intent. Likewise, any letter of intent you receive should be reviewed by a skilled business lawyer to ensure that you have maximum protection and cover all required bases regarding pertinent laws and regulations.

Contact San Diego Corporation Law Today

If you would like more information about Letters of Intent and other contracts, contact attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard has been named a “Rising Star” for 2017 by Mr. Leonard can review your Letters of Intent and other contracts and he has the experience and knowledge to help your business succeed. Mr. Leonard can be reached at (858) 483-9200 or via email.

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