Letters of intent are an important tool in the process of buying or selling a business. They can benefit both sides of a potential transaction in many ways. They can also serve as a proving ground for the parties to test the probability that a deal can be finalized.

Sometimes a buyer will use a letter of intent to formalize the main terms of its offer to the seller. A seller may also issue an intent letter, sometimes called a bid letter, setting forth the transaction terms that are agreeable to the seller. In either case, the general advantages are the same. Deal breakers are identified early in the negotiation process, which helps the parties avoid substantial due diligence expenses that otherwise would have been incurred. Additionally, the negotiation of the complete and final agreement becomes more focused and simple when the principal terms and conditions of the transaction are agreed upon during the early stages.

From the buyer’s position, the main purpose of a letter of intent is to secure a promise from the seller not to negotiate with other buyers for a stated time period. This type of provision is called a no-shop provision; in all cases, the buyer will want to make this provision enforceable. The buyer will also want to use the letter of intent to facilitate a due diligence investigation of the seller’s business and to secure the seller’s cooperation. Generally speaking, a letter of intent will be crafted to allow a buyer to inspect the seller’s assets and to review operating procedures and business records. To delay discussion and negotiation of any difficult or complicated matters, the buyer will want to make the remainder of the letter general and non-committal. This approach allows the buyer time to acquire more perfect knowledge about the seller and bargain from a much improved position.

From the seller’s perspective, the letter of intent should be as specific as possible regarding all material terms of the deal. These terms include the purchase price, deal structure, representations and warranties, terms of employment agreements that will be incorporated into the final agreement, and covenants not to compete. The seller’s leverage is at its zenith before a letter of intent has been signed, so addressing the aforementioned negotiation points as part of the intent letter presents a good opportunity for the seller to bargain from a position of strength.

A second important aspect of the intent letter negotiation for the seller is the preservation of confidentiality about the proposed deal and the seller’s business. The seller should be careful not to disclose proprietary or confidential information. Also, the seller needs to be mindful of preserving relationships with its employees, vendors, and customers. Consequently, the seller will want the buyer to make strong confidentiality covenants that will stand separately from all other provisions in the letter. The seller may have the buyer sign a separate non-disclosure agreement along with a non-solicitation agreement to protect the seller’s employees from being poached in the event the deal is not completed.

For a consultation regarding your individual business issues, please contact San Diego Corporate Law today!