Quick Tips for Negotiating a Great Letter of Intent

From the Business Seller’s Perspective

A Business Seller’s leverage is greatest prior to signing a Letter of Intent ( LOI) because:

• the Buyer is at an informational disadvantage – as the Buyer gains information in the due diligence process it will gain momentum in the negotiations;
• relatedly, Seller loses momentum as employees, vendors, lenders, customers and others are advised of the deal – Seller cannot afford to be viewed as “damaged goods;” and
• the Buyer does not yet have an exclusive (or, may not know that it is not going to get one). Accordingly, most buyers are anxious to negotiate on the “big issues” before someone else does.

1. Seize the opportunity to draft the LOI if possible. Negotiate the LOI to be as specific as possible with respect to each of the material terms of the transaction. As a guide, pull and review a well-written definitive agreement from your files.
2. Provide that the purchase price is to be paid “at closing” to foreclose the later argument that a portion of the purchase price should be subject to an escrow or holdback.
3. If stock in a public company is to be acquired, attach a term sheet specifying the applicable registration rights and valuation provisions (caps, collars, floors, windows, etc).
4. If a promissory note is to be used as part of the purchase price, consider interest rates (including default rate), personal guarantees and other security and whether offset rights will be permitted and under what circumstances. Further, consider acceptable subordination provisions to the extent a primary lender is contemplated.
5. Consider how the due diligence review should proceed. Provide that Buyer not communicate with employees, vendors, lenders, etc. until authorized in writing. Provide that no representations are made with respect to the information supplied as part of the due diligence process, all of which will be contained exclusively in the definitive document.
6. Provide for binding confidentiality and non-solicitation agreements that survive the termination or expiration of the LOI.
7. Consider those representations and warranties that will be rejected – including such “wide-net” representations as:

• the 10b-5 rep and
• the “no unknown liabilities” rep.

8. Provide that the representations are expected to contain “standard and necessary carve-outs, scheduling, materiality and knowledge qualifiers and the like.”
9. Fully delineate the indemnification mechanism.
10. Provide for an indemnification basket and that Buyer’s sole and exclusive remedy shall be for indemnification. Include a reasonable indemnity cap, not to exceed the purchase price.
11. Provide, if possible, that the definitive purchase agreement will specify that:

• consequential damages are to be excluded and
• an indemnifiable loss must be reduced by both tax benefits (i.e., recorded loss) and insurance recoveries available to Buyer.LOI.

12. To the extent Buyer intends to establish an acquisition sub, be sure to obtain the signatures of both the parent and the sub for purposes of enforcing the binding agreements.
13. If an earnout is to be used, attach the precise language to be used in the calculation and payment of the earnout
14. Provide, if possible, that Seller be free to continue negotiations with respect to, and enter into, a transaction similar to that contemplated by the LOI with any other person, firm or corporation, except to the extent Seller grant Buyer, in writing, an exclusive right.
15. Consider Seller’s appetite for litigation and provide, as appropriate, for arbitration. Most commonly, lawsuits will arise from:

• non-payment of a deferred portion of the purchase price or
• breach of representations by the Seller. Sellers generally like speedy justice when it comes to getting paid, but resist the notion when it relates to purported breaches of representations. Determine which is more likely.

16. Consider duration of survival period. Carve-outs, if any, should be specified.
17. Specify, if possible, all of the material conditions to Buyer’s obligation to close. Resist, if possible, open-ended due diligence out, financing out and other conditions largely within the control of Buyer.
18. Insist on a detailed timeline. Seller should add key dates such as:

• date of first draft of definitive purchase agreement,
• dates for employee, vendor and customer interviews, and
• dates by which Buyer must have financing.

19. Include, as appropriate, coercive provisions such as the right to terminate the LOI if Buyer should:

• try to renegotiate the essential terms,
• delay the process or
• otherwise fails to live up to Seller’s reasonable expectations.

20. To the extent a sale of stock is contemplated, obtain the signatures of all shareholders. In addition, consider the necessity of a voting agreement.
21. Preclude press-releases, publicity or notices of any kind without the prior written consent of Seller.

From the Business Buyer’s Perspective

For all of the reasons noted above, BusinessBuyer usually gain tactical advantage from avoiding specificity in the LOI. Exceptions exist where:

• Seller is relatively unsophisticated and Buyer wants to ensure that Seller realizes what will be asked of it, or
• Buyer has an active and routinized acquisition program that calls for certain provisions to be contained in every transaction.

1. The Buyer is typically interested in obtaining a tight “no-shop” or exclusivity agreement from Seller before spending significant time and money on due diligence. Draft this into the LOI as a binding covenant early.
2. To preserve flexibility, provide, if possible, that the Buyer will “acquire the business of the Company” or “acquire the assets or capital securities of the Company.” Thereafter coordinate closely with tax advisors.
3. With few exceptions, the Buyer will seek a nonspecific LOI, leaving it with the flexibility and time necessary to complete its due diligence review prior to agreeing to specific terms.
4. Sellers typically resist a holdback or escrow if the concept of one was not discussed at the LOI stage. As such, the Buyer may want to provide that the purchase price shall be subject to a reasonable escrow to cover, among other things, breaches of Seller’s representations and warranties in an amount to be negotiated between Buyer and Seller after Buyer’s successful completion of its due diligence.
5. If the Buyer is aware of certain known areas of potential liabilities it should specify how those liabilities will affect the purchase price, escrowed amount or structure of the transaction, thus enhancing the Buyer’s position to negotiate these issues in the final agreement.
6. Consider whether and to what extent the shareholders or management will be asked to make the representations personally. To the extent they will be, get them to agree up front.
7. Buyer will also want to ensure that the due diligence agreement is specific with respect to who Buyer can talk to and when. Provide, if possible, that Seller will cooperate in due diligence to the extent requested by Buyer in writing.
8. Consider, if relevant, the advisability of an obligation to negotiate in good faith. These obligations, which essentially provide that Seller cannot unilaterally terminate negotiations or require an unreasonable position, may not necessarily be imputed by state law. Cases observe, however, that the covenant does not require a final deal.
9. Consider the advisability of a simultaneous signing/closing transaction. Because closing conditions and termination provisions will not be negotiated, the Buyer can walk away at any time for any reason. If this approach is used, further consideration should be given to whether interim covenants (i.e., restrictions on the actions of the target prior to closing) should be negotiated into the binding provisions of the LOI.