Thought Leaders: Letters of Intent: Are they necessary?

A Letter of Intent (LOI) acts as a preliminary document outlining several basic and essential terms and conditions of a potential business transaction. They are generally not legally binding and are seen by some as an unnecessary formality, but they can play an impactful role in shaping a future Purchase and Sale Agreement (PSA) between two businesses. Weighing the benefits, drawbacks, and legal implications of an LOI is crucial for businesses contemplating a PSA.

Benefits

LOIs help provide the parties with a fundamental outline regarding the aspects of a business transaction without fully binding either party. Depending on the deal, LOIs can be useful to reflect serious intent of the parties to reach a final agreement. The purchase price, what is being purchased, payment terms, and a general expectation of timelines are common elements of an LOI. Defining these major items upfront can help the parties save time and resources by facilitating smoother PSA negotiations. 

Potential Drawbacks

Although certain clauses in an LOI, such as confidentiality and exclusivity, may be binding, the other provisions of an LOI will generally be non-binding. This can allow parties to change their mind or decide to renegotiate terms, effectively rendering the LOI useless. Furthermore, there will likely be many aspects of the PSA that the LOI does not consider, which can create deal breakers that parties did not envision.

Legal Considerations

As previously mentioned, in general, LOIs are considered non-binding agreements to negotiate in good faith. However, if an LOI is poorly drafted, a court could find it to be legally binding. It is, therefore, important for parties to clearly delineate the parts of an LOI they wish to be enforceable and which they do not. Understanding the legal implications of an LOI is significant for a business to achieve a beneficial transaction.

In summary, the decision to begin a PSA with an LOI or to move straight to a PSA is a strategic one. That decision will greatly depend on the complexity and timing of the transaction, and the relationship between the parties involved. Seeking legal counsel from an experienced business attorney before entering into an LOI is highly advisable to ensure protection of business interests.