Exercise Caution When Using Letters of Intent

Commentary: Letters of intent (“LOI”) are often intended to serve as a “non-binding” method by which to outline pertinent deal points. However, a problem lies in that an LOI, in certain situations can be construed as a binding agreement. Therefore, while an LOI can be helpful in setting an agenda of sorts for negotiation purposes, it can also create unintended binding obligations. The upside is that it can allow the parties to discuss the pertinent business points of a deal prior to negotiating all of the details of a sale agreement. The downside is that LOI’s are generally brief and will simply outline some of the overarching points to an agreement. They rarely discuss the “nitty gritty” of a deal, in terms of the logistics and details of how the transaction will work. Therefore, there is an inherent danger in having a written document that memorializes some of the points of a transaction, but not all. Under certain circumstances, it might be deemed to be a contract in and of itself.

For this reason, it is critical that these documents be used cautiously. The danger is two-fold. First, the purpose of the letter of intent is generally to make sure that the parties are on the same page. If they are not, and the transaction later falls through, it arguably means that at least one of the parties may not want to be bound to the original terms of the letter of intent. This is particularly true given that the letter of intent arguably did not reflect the anticipated deal, since the deal fell through.

In addition, the LOI may discuss generalities without specifics. For example, suppose a letter of intent for a sale of business memorialized that the parties anticipated a sale price of $750,000.00; that an ongoing consulting agreement would be entered into with the business seller; that the seller would agree to a non-compete agreement; and that the seller would license certain intellectual property to the purchaser. The letter of intent may be as basic as that, without providing any information as to when the purchase price is paid; what intellectual property will be licensed and under what terms; what the intellectual property license fee would be; or what the terms of the other agreements would be. This arguably leaves a great deal of room for ambiguity with regard to the details that would still need to be negotiated between the parties; and each could have a different idea of what those other aspects should include. It is risky for parties to be bound to a general concept without ensuring that they are in agreement concerning the implementation.

It is therefore critical that parties exercise caution in drafting letters of intent in the first place. If they nevertheless decide that a letter of intent is necessary, buyers and sellers should be cognizant of the terms that they are including in such a document, and should generally include language that explicitly states that the letter should not be construed as a binding agreement.

Moreover, it goes without saying that the parties should consult with counsel prior to reaching the point of drafting or certainly signing a letter of intent. An attorney can help evaluate these aspects of the transaction and document them properly.

Comments/Questions: ljm@gdnlaw.com

© 2008 Nissenbaum Law Group, LLC