In the M&A process, the Letter of Intent, or LOI, is the step that tells the seller that the buyer is serious about an acquisition. This is the document a buyer and seller will sign before starting due diligence procedures. And although most points in LOIs are non-binding, there are a few things that are binding, such as 1) exclusivity – the buyer will expect that for a stated period of time, the seller will take the business off the market to other prospective buyers, and 2) that the discussions and sharing of all information and materials will remain confidential.
Normally after a buyer has signed a Non-Disclosure Agreement (NDA), the buyer will review the Confidential Information Memorandum (CIM) that the M&A firm has prepared. This document will outline the history, operations, management, financial performance and other significant facts about the business. It should provide the buyer with enough information to make an informed decision about whether the company fits with his or her acquisition objectives and whether to make an offer.
Sometimes, M&A firms will ask for an Indication of Interest (IOI), to determine if the buyer’s price is in the ballpark before engaging in additional conversations, a site visit, and further analysis. If the parties are far apart on price, it can cut to the chase and save everyone time. There is no reason for a seller to give up confidential information and go through the amount of time and advisors’ expenses if the buyer and seller can't agree on the key points on a transaction. And a buyer won’t want to waste time if the seller is wanting more for the business than the buyer is willing to pay. IOIs are also frequently used when multiple buyers are in play.
In most of our dealings, we have provided enough information in the Confidential Information Memorandum (CIM) that the buyer has a good understanding of the business and the seller’s expectations. In these cases, the buyer may skip the IOI and go straight to the LOI after a conference call with the seller.
There are many variables that a buyer should provide beyond price when writing the LOI. The seller needs to understand what the buyer is purchasing and on what terms. Things to look for in the LOI include:
Buyer and transaction identification – The LOI will name the players and state whether the transaction is a stock or asset sale. Each has different tax and legal implications, so it’s an important detail. The LOI will also outline the specific assets and liabilities to be purchased, their dollar value, and whether there are any assets and liabilities that are excluded from the transaction. The method of calculating working capital will also be included.
Price and consideration – It will outline the purchase price and how the seller will get paid. Most sellers hope for all cash at closing, but unless multiple buyers are bidding on the business, that’s generally rare. Usually there is some holdback or seller terms. Terms may be in the form of equity in the purchasing company, a seller note, or an earn-out.
Contingencies – Usually, buyers have a number of conditions that will need to be met before closing. Contingencies might include financing, negotiating a new lease, entering into a consulting agreement with the seller, conducting a satisfactory due diligence and an appraisal of certain assets.
Due diligence – The LOI signals the beginning of official due diligence. The buyer’s goal with this process is to vet valuation assumptions, confirm the information the buyer has provided, identify opportunities for increasing revenue after the sale, and find any pitfalls that may decrease the selling price.
Timing and closing – Finally, the LOI will outline the timeline for the transaction. For a seller, a quick close is ideal. Experienced buyers can often close a deal 60 to 90 days after the LOI is signed. However, a more common timeline is 90 to 120 days. The LOI may list milestones regarding delivery of due diligence, receipt of the asset purchase agreement, receipt of employment agreements, and the targeted closing date. This timeline should be shared with the entire deal team in order to avoid delays.
Miscellaneous items -- The governing law, allocation of the purchase price, term for the non-compete agreements, holdbacks, and reps and warranties may also be included in the LOI.
Once a LOI is negotiated, agreed upon and executed, the parties can work on due diligence and begin working on a legal purchase agreement. As stated earlier, the LOI is mostly non-binding, and either party can back out if something is amiss during due diligence, but it should not be taken lightly, since it signals the sincerity of both parties.
At this stage of negotiations, many business owners realize just how time-consuming a sale can be. Even if there has been no M&A consultant involved to this point, it’s not too late to bring in a professional to make sure the LOI and the entire sale process meet your goals and expectations. For a confidential consultation, call us at 913.648.0185 or email email@example.com.