The M&A Playbook (Part 4): The Letter of Intent (LOI)
Table of Contents
- Introduction
- The First Legal Step: The Non-Disclosure Agreement (NDA)
- The Main Event: The Letter of Intent (LOI)
- The Legal Trap: Binding vs. Non-Binding Provisions
- The "Accidental" Contract
- Conclusion: Taking Your Target Off the Market
Introduction
In Parts 1-3 of this series, we built your strategic foundation. You have your "why" (strategy), your "what kind" (deal type), and your "how" (legal structure). You've identified a target that fits your plan.
The "dating" process now begins. This phase is not about closing the deal; it's about setting the rules of engagement.
Get this phase wrong, and you can find yourself in a legally binding contract by accident, or worse, watch your target get "shopped" to a competitor using your own offer as the floor.
The First Legal Step: The Non-Disclosure Agreement (NDA)
Before any substantive discussion, you will sign an NDA, also called a Confidentiality Agreement (CA). This is the "shield for your business secrets" and it is the first legally binding contract in the M&A process.
Purpose: The NDA allows the seller to give you their "Confidential Information Memorandum" (CIM)—the "sales book" with sensitive details about their business—so you can conduct a preliminary evaluation. In return, you agree not to disclose this information or use it for any purpose other than evaluating the transaction.
Key Provisions to Watch
These are not "boilerplate." Your legal counsel must review the NDA carefully.
"Representatives": Who on your team can see the data? The seller will try to keep this narrow. You must ensure it is broad enough to include your lawyers, accountants, and—critically—your financing sources (e.g., your lenders), who will also need to review the information.
"Non-Solicitation": The seller will demand you agree not to hire away their employees or contact their customers/suppliers for a set period. This is a standard and fair request.
"Mutual vs. One-Way": The seller will present a one-way NDA that only protects their information. If you are also providing sensitive information (e.g., about your integration plans or how you value the deal), your counsel must push for a mutual (two-way) agreement.
The Main Event: The Letter of Intent (LOI)
After reviewing the CIM and holding initial discussions, you are ready to make a non-binding offer. This is the Letter of Intent (LOI), also known as a "Term Sheet".
This is a preliminary agreement that outlines the "big picture" terms of the deal before you commit to spending hundreds of thousands (or millions) of dollars on the deep diligence we will cover in Parts 5-7.
What it includes:
- Proposed Purchase Price and Form (e.g., $100M in cash, $20M in stock)
- The Deal Structure (Asset Purchase, Stock Purchase, etc., as we covered in Part 3)
- Timeline for Due Diligence (e.g., an exclusive 60-day period)
- Key Conditions to Closing
Its Real Purpose: The LOI is a "moral obligation" to see if you and the seller are aligned on the major terms before you both commit to the expensive and time-consuming process of drafting a full purchase agreement.
The Legal Trap: Binding vs. Non-Binding Provisions
This is the single most dangerous part of an LOI and a place I have seen executives make catastrophic errors. You must understand this distinction. Your legal counsel's primary job here is to make this distinction crystal clear.
1. The Non-Binding Provisions (The "Handshake")
The business terms of the deal are (and must be) explicitly stated as "non-binding". This includes:
- Purchase Price
- Timeline
- Deal Structure
This is crucial. It means that after you conduct your diligence (Part 5), if you find a "skeleton in the closet" (e.g., the financials are weaker than advertised, or a key customer is leaving), you have the legal right to change the price or walk away without penalty.
2. The Binding Provisions (The "Legal Handcuffs")
This is the real reason you, the buyer, sign an LOI. Buried at the end of the letter are several clauses that are explicitly stated as "legally binding and enforceable".
The #1 Prize: Exclusivity (The "No-Shop" Clause). This is what you are "paying" for with your offer. This provision legally forbids the seller from "soliciting or participating in discussions" with any other potential buyer for a set period (e.g., 60-90 days).
Why this matters: This protects you from being used as a "stalking horse". Without a "no-shop" clause, the seller could take your $100M offer, call your competitor, and say, "I've got $100M, can you beat $105M?" The exclusivity clause takes your target off the market and gives you the time and space to conduct your expensive diligence.
Other Binding Terms:
- Confidentiality: Reaffirms the NDA
- Expenses/Governing Law: Who pays for what if the deal dies, and which state's law governs the agreement
The "Accidental" Contract
The legal trap you must avoid is signing an LOI that is not clearly drafted. If your LOI lacks a clear and unambiguous disclaimer stating that the business terms are non-binding, a court can rule that the entire LOI is a binding contract.
This happens when the language is too specific and "leaves no room for further negotiation". A jilted seller (or buyer) could then sue to force you to close the deal based on the LOI's terms. This is a catastrophic, "bet-the-company" error. Never, ever treat an LOI as a casual document.
Conclusion: Taking Your Target Off the Market
An LOI isn't a simple handshake; it's a strategic legal tool. The "non-binding" part aligns your commercial interests. The "binding" part gives you what you've paid for with your offer: the exclusive right to investigate the company.
You have now taken your target off the market. You have 60 days.
You've signed the LOI. Now, the real work begins. You have to find out if what you think you're buying is what you're actually buying. Continue to Part 5 where it's time to run the Diligence Gauntlet.
Previous: Part 3: Asset Purchase vs. Stock Purchase
Next: Part 5: The Diligence Gauntlet (Part 1 - Financial & Commercial)
