One of the most important documents in the sale of the business is the letter of intent or indicative offer received from a prospective buyer. It is vitally important to ensure the key elements of the deal are well understood and agreed before progressing with due diligence and final documentation.
Without a clear set of terms, both parties will seek to ensure that their “understanding” is correctly interpreted in the final agreements and often this “understanding” can be of significant value and result in protracted unhappy negotiations.
Letter of Intent – Minimum Requirements
It is important that your advisor is clear with prospective buyers as to the minimum requirements to be included in your letter of intent. With all of the key items appropriately addressed, the sellers are better positioned to compare and determine which is the most suitable deal.
The letter of intent which may be referred to as a “LOI”, “expression of interest” or “EOI”, “indicative offer” or “term sheet” includes the most important elements of the deal. Key clauses to include are whether the agreement is binding or exclusive, the price and deal structure and what is included or excluded. Is it a purchase of assets or shares, what are the funding requirements, employee matters, internal approval process, due diligence requirements and timing? The following should be considered:
- Purchaser Full Name – who is buying the company or who will be the ultimate owner?
- Strategic Rationale for the Acquisition – understanding the motivation of the buyer can help ensure that the deal is appropriately structured
- Consideration – the price to be paid, how will it be paid, the basis of the price is often cash free debt free (clarify what is debt free and which debt and how much cash is included or excluded), working capital included and balance sheet adjustment requirements. Where payments are to be deferred, what security is provided?
- Transaction Structure – sale of shares or assets, which company or parties are the buyers.
- Valuation Assumptions – particularly if a valuation is based on current or past performance metrics. This could also include third-party equipment valuation or property valuations
- Financing Requirements – whether completing the deal is contingent on third-party funding and required approvals
- Due Diligence – specific due diligence requirements. These are typically focussed on technical, commercial (contracts etc), financial, tax and legal
- Approval Process – internal stake holder approvals as well as external approval requirements
- Conditions Precedent – what key elements need to be addressed before the deal can be closed.
- Timing – timetable to completion
- Employees – key person employment agreements and intentions regarding existing employees post completion
- Contact Persons – it is preferable to assign one person who will be the key contact for the buying team and negotiating the letter of intent however contacts will be established more broadly with key persons on the buyer deal team.
A very important element to closing deals is to avoid surprises. A good and well written letter of intent is often drafted in consultation with the sellers to overcome potentially different interpretations and misunderstandings. A good letter of intent also enables legal, tax and financial advisors to determined what is the best deal structure according to your personal finances and what is the best deal for you.
The letter of intent addresses the core elements of a deal, minimises the unknowns and associated “surprises” and ultimately helps reduce the emotional rollercoaster of a deal and facilitate a smooth transaction.