What to know about a LOI (Letter of Intent)?

What to know about a LOI (Letter of Intent)?

In this article I want to provide more information about the Letter of Intent, very often also described as a LOI. On the one hand I write this article to give business owners a first view on what a Letter of Intent is about. On the other hand, I also write this article for our colleagues in M&A to exchange opinions and increase the knowledge about this important document in any M&A process.

Here are some of the items I will touch upon:

• What is a Letter of Intent (LOI)?
• Related documents to the Letter of Intent
• What is described in a Letter of Intent?
• How to prepare a Letter of Intent?
• How does the M&A experience of both parties play a role?
• What makes a Letter of Intent a good one?

I am very interested to hear your view on the Letter of Intent. Please leave your opinion on these questions about the usefulness of a Letter of Intent at the end of the document.

What is a Letter of Intent (LOI)?

A Letter of Intent is, as the name indicates, a document, read a Letter that is used to give an Intent. In our practice, international M&A, the Intent is to buy a company from a Seller. Its main purpose is to describe, often at a relatively high level, the main items that will determine the planned future acquisition.

The LOI is often prepared once both parties are familiar to each other and have spoken and visited each other various times.  A buyer will want to ensure when drafting a LOI and before starting a costly due diligence process that the acquisition can be successful.

Related documents to the Letter of Intent

In practice there are various other documents that are somehow related to a Letter of Intent. In the end it is a legal document that is signed by both the Seller and Buyer. Documents that are somehow related to the LOI are:

• Term Sheet
• NBO (Non-Binding Offer)
• SPA (Share Purchase Agreement)

A Term Sheet also describes the main criteria of a transaction. However, this document is mostly used for much smaller transactions. A Term Sheet can be one or a few pages only and describes the main items of a planned future transaction. Download an example of a Term Sheet here.

A NBO (Non-Binding Offer) is an offer of a buyer. The NBO is not legally binding and makes a proposal to acquire a company from a Seller. The objective is to give an indication of the main terms of a planned company purchase.   A NBO can often be followed, not much later in the process by a LOI. This LOI is then much more detailed and describes the planned transaction and all it’s important aspects.

The SPA (Share Purchase Agreement) is the final legal document that describes the detailed conditions on which the shares of a legal entity are acquired.

 What is described in a Letter of Intent?

A Letter of Intent is in practice always prepared by the prospective Buyer. These are the areas that are normally described in a Letter of Intent:

• Background buyer (optional)
• Transaction Rationale
• Confidentiality (mostly already signed in a previous NDA)
• Valuation details
• Purchase price (including earn-out structure)
• Timing of payments
• Financing structure
• Legally binding (mostly non-binding in practice, but sometimes with binding provisions)
• Due Diligence requirements and planning
• Further process timing
• Management and owners future plans
• Exclusivity (period and details)

A Seller might have or build up significant knowledge about a LOI during various processes. Although it must be obvious that any business owner needs professional legal advice.

How to prepare a Letter of Intent?

There should normally have been a detailed and intensive cooperation between both parties involved before a LOI is submitted. As stated above it is normally the responsibility of the Buyer to prepare the LOI.  In practice we see some Buyers do this internally with their own legal support. Especially if Buyers are closely related to investors, like Private Equity players, own templates are often used.

In case you are a strategic buyer that is focusing on a single transaction only and will use external legal support it might be wise to get the legal advisor be part of the LOI process. A lawyer will then know which items have been agreed early in the process. Also specific items that might be crucial can be brought up and agreed early on in the process. Sometimes this prevents an acquisition from breaking down in a later stage of the process.

However, legal advisors are often very detailed and a bit further away from the actual business activity. This can also lead legal advisors to cause potential issues and make a transaction process more complicated.

A tricky aspect can be that a LOI, although described as not legally binding can have so many concrete elements that it could be considered binding and create obligations on one or both sides. The question is then if a transaction is enforceable by any of the parties. This will also depend on the law one uses for a specific transaction as this aspect might be treated differently across Europe.

How does the M&A experience of both parties play a role?

There is very often a difference in experience on both sides of a transaction. Sometimes there is a Seller on one side of the table that wants to retire and who only sells a company once. On the other side there can be an experienced Buyer that has done multiple transactions and is continuously working on acquisitions. In such a situation it is desired that a Seller receives professional advice via an advisor (both legal and M&A related).

If there is a large difference in experience between both sides it can be wise to create a strong base of confidence between both parties first. Especially if both parties continue to cooperate and work together after the Closing this can be useful. If both sides still depend on each other this confidence can help the transaction close smoothly.

What makes a Letter of Intent a good one?

It is a good question what really makes a LOI stand out. On the one hand there needs to be sufficient understanding on both sides of what the plans are from the opposite party. It is definitely good, or even required, that both parties have met once or possibly more often.

Regarding timing a LOI should not be presented to early and be to general. As an example some PE (Private Equity) firms send out a NBO or even a LOI to various parties with low offers (‘fishing’). They  only really start to finetuning once there appears to be a serious interest from a potential Seller. This might result in broken negotiations early on in the process with sour feelings on both side.

The level of detail is also important. A LOI needs to be detailed, no question about that. However, it is also not a SPA (Share Purchase Agreement) and if both parties take to much time and a LOI is not signed after longer negotiations it might be a bad signal for the remaining part of the M&A process.

A LOI is good, from my point of view, if it has sufficient detail and covers the main topics that are crucial for the planned M&A transaction. The preparation of the document should also allow both parties to develop a methodology in solving issues or different views on specific topics. In this way both parties can create a base for a further successful continuation of the M&A process.

Please provide your feedback and opinion on this topic below.

• When to choose between a LOI and a Term Sheet?
• Can an acquisition project be successful with a NBO only (and do without a LOI)?
• Does the Letter of Intent need to differ between industry and size of business?
• What is crucial for a good LOI?
• What are possible mistakes in a Letter of Intent?

Please leave your opinion on these questions about a Letter of Intent here below.