Module 12-: One of the first formal and most crucial steps involved in buying a business is drafting a letter of intent (LOI). This letter, less commonly called a letter of intention, is a written document that expresses a buyer’s intent to start negotiations to buy a business from a seller.
However, since a letter of intent is a non-binding document, it doesn’t govern the terms of the purchase and is not an agreement. And its acceptance by the seller does not in any way guarantee that he will eventually sell the business to the sender of the LOI. Its acceptance is just an indication that the seller is interested in starting negotiations with the intending buyer.
A well-written letter of intent gives the seller some insight into what the buyer has to offer. And because it’s a way to get both parties’ assumptions and views on the critical terms of the deal on paper, it can reduce potential misunderstandings that might spring up later.
Anyone looking to buy a business soon or you hoping to do that in the future needs to know how to write a letter of intent. And actually, it’s a no-brainer. Here are the fine details that must go into an LOI.
Buying a Business: How to Write a Letter of Intent
1. Transaction structure-: This is the first part of a letter of intent, and it should be an introduction of the intended transaction. It should include a description of the deal, the names of the parties involved (that is, the seller and the buyer), whether the buyer is an individual or a corporation, and whether the deal will involve the sale of stock or sale of assets, or both.
If these points are not discussed from the beginning, the deal could later fall apart, as the terms preferred by the seller may not be feasible for the buyer, and vice-versa.
2. Price and terms-: A letter of intent should also state clearly both the proposed purchase price and an explanation of the assumptions that the price is based upon. Although many of these assumptions may turn out not to be true during the due diligence process, including them in your letter of intent will show both parties a road map on how to adjust the purchase price.
In addition, this part of the LOI should outline the payment terms of the proposed agreement. For example, the buyer might be looking to request seller financing. Similarly, the buyer might be looking for an all-cash deal or allow the seller retain some interest in the business.
3. Assets and liabilities-: Another important part of a letter of intent is the list of assets and liabilities that are part of the transaction. Here, the buyer will state whether accounts receivable will be included as part of the agreement and whether the seller will retain cash on the balance sheet. The buyer will also include the inventory in the deal as well as assumption of equipment leases and other liabilities.
Aside showing what assets and liabilities of the business that the buyer is aware of or interested in, this part of a letter of intent also specifies what the buyer is willing to pay for each, thereby making it clearer how the buyer arrived at the proposed purchase price.
4. Timing-: A letter of intent will be incomplete without a clear specification of the time frame within which the buyer intends to complete the deal. This helps keep negotiations moving throughout the buying process. If necessary, either party can adjust this time frame during the buying process. The buyer must also include the length of the transition period that will take place after the sale. Also, if he’s looking to retain the services of the seller for a certain period after the sale, he should state this clearly, too.
5. Other conditions-: All other major points and conditions of the deal must be included in the letter of intent. If either party has specific terms that are crucial to them, they should let the other party know relatively early.
Examples of these terms include: whether key employees must be retained for the deal to close, any non-disclosure agreements and other agreements that either or both parties will sign, whether the buyer will be assuming any liabilities of the seller, and so on.
There are many ways to write a letter of intent, but the best way is to include all the fine details that the seller needs to know. One common mistakes sellers make is to try to get away with vague letters of intent, hoping to iron out the details later. Don’t make this mistake. Rather include all the necessary details as explained in this article.