Selling Your Business? Start With a Letter of Intent

Very often, when I am called in to assist with the sale of a business the parties have already signed a document that sets out many of the terms of sale.  My client might believe that it is just the starting point for negotiations but, more often than not, I have to advise them that the document they signed is a legally binding contract and that any attempt to change the terms could lead to an action for damages.

The courts try to find meaning in commercial documents and, if enough of the basic terms of the transaction are set out and there is no clear indication that the document is not intended to be binding, the courts will usually find that there is a contract – with all the rights and obligations that flow from that finding.

I usually recommend that a major transaction, such as the sale of a business, begin with a letter of intent.  A letter of intent (sometimes called a term sheet) sets out the basic terms such as price and payment terms, any exclusions from the property being sold, related arrangements such as consulting or employment contracts with the selling principal and the proposed time frame and states clearly that the document reflects the intention of the parties to negotiate a definitive agreement based roughly on the letter of intent.   The idea is that legal obligations will only come into existence upon the signing of a comprehensive contract.  That way, if major snags arise during the negotiations or due diligence process, the parties can go their separate ways without having the threat of litigation hanging over their heads.

Despite the fact that a letter of intent is not intended to be legally binding, I often recommend that some binding terms be included in the document: in particular a “no shop clause” and a “drop dead date”.  A “no shop clause” means that the seller is prohibited from revealing the proposed sale price and other major terms to competing buyers and the “drop dead date” simply sets out a date when the parties can walk away from the deal without any further obligation to the other.  In addition, a non-disclosure agreement should be in place before any confidential information is revealed by the seller and the parties may also wish to have a period in which the parties negotiate exclusively with each other.  In other words, the buyer can’t look at other businesses and the seller can’t talk to other potential buyers during the exclusive period.

The comments in this article are intended as general information only and are not to be relied on as legal advice or an opinion applicable to your particular situation.   For further information, please contact Bruce Farrend at Farrend Law.