Letter of Intent & Term Sheet

The Letter of Intent (LOI) or Term Sheet is a critical milestone that bridges preliminary discussions and formal due diligence. Getting the LOI right sets the foundation for a successful transaction.

What is an LOI?

Definition: A document outlining the key terms and conditions under which one party proposes to acquire another, typically non-binding except for certain provisions.

Purpose:

Establish mutual intent to proceed
Outline key economic and structural terms
Create framework for due diligence and negotiation
Provide exclusivity period for buyer
Demonstrate serious commitment from both parties

Other Names:

Term Sheet
Indication of Interest (IOI)
Memorandum of Understanding (MOU)
Letter of Interest

When to Submit an LOI

Timing Considerations

Buyer Perspective:

After management meeting(s) and preliminary diligence
Once strategic fit is confirmed
When prepared to commit resources to full diligence
After preliminary valuation range established
When competitive dynamics require action

Typical Timeline: 4-8 weeks after initial serious discussions

Seller Perspective:

When buyer is qualified and serious
After sufficient information shared for informed offer
When ready to grant exclusivity
Competitive situation is clarified

IOI vs. Full LOI

Indication of Interest (IOI):

Used in competitive auction processes
Non-binding preliminary bid
Less detailed than full LOI
Submitted earlier in process
Purpose: Get invited to next round

Letter of Intent (LOI):

More comprehensive and detailed
Submitted after more diligence
Includes exclusivity provision
Purpose: Establish framework for definitive agreement

Key Components of an LOI

1. Purchase Price and Valuation

Enterprise Value:

Proposed Enterprise Value: $XX million
(subject to customary working capital adjustment)

Or Multiple-Based:

Enterprise Value: $XX million, representing X.Xx times
trailing twelve month (TTM) EBITDA of $XX million

Key Decisions:

State as range or specific number
Fixed vs. working capital adjusted
Based on what financial metric
Earnout or contingent consideration

Examples:

Fixed Price:
$50 million enterprise value, subject to working capital
adjustment with target of $5 million

Range:
Enterprise value of $45-50 million based on trailing twelve
month EBITDA of $10-11 million, representing 4.5x multiple

Earnout:
$40 million at close, plus earnout of up to $10 million based
on achievement of 2025-2026 revenue milestones

2. Deal Structure

Stock vs. Asset Purchase:

Structure: Stock purchase of 100% of outstanding equity
OR
Structure: Asset purchase of substantially all operating assets

Merger vs. Acquisition:

Merger: Companies combine legally
Acquisition: One company buys another

Consideration Type:

All cash
Cash and stock
All stock
Seller financing component

Example:

Transaction Type: Stock purchase
Consideration: $45 million in cash at closing, plus $5 million
in buyer stock (subject to market adjustment)

3. Exclusivity (No-Shop)

Purpose: Prevents seller from soliciting or negotiating with other buyers

Typical Terms:

Duration: 45-90 days (60 days most common)
Scope: No solicitation, must cease existing discussions
Exceptions: Sometimes allows "fiduciary out" for boards
Remedies: Termination fees, expense reimbursement

Example Language:

Exclusivity: For 60 days from execution of this LOI, Seller agrees
not to solicit, initiate, or continue discussions with any other
party regarding a sale, merger, or similar transaction. Seller will
immediately cease all existing discussions with other parties.

Negotiation Points:

Buyer wants longer period (more time for diligence)
Seller wants shorter period (less time off market)
Buyer wants strict no-shop (prevents auction)
Seller wants ability to continue discussions (maintains leverage)

4. Due Diligence

Access and Cooperation:

Due Diligence: Seller will provide Buyer full access to:
- Financial records and projections
- Legal documents and contracts
- Customer and employee information
- Operations and facilities
- Management and key employees

Confidentiality:

NDA typically already in place
May include additional provisions
Limits on disclosure to employees/customers

Timeline:

Due Diligence Period: Buyer will have 45 days from execution
of this LOI to complete due diligence

5. Conditions to Closing

Buyer Conditions:

Satisfactory completion of due diligence
No material adverse change
Regulatory approvals obtained
Financing secured (if applicable)
Key employee agreements signed
Board and shareholder approvals

Seller Conditions:

Regulatory approvals
Third-party consents obtained
Board and shareholder approvals

Example:

Conditions to Closing:
- Completion of satisfactory legal, financial, and operational
  due diligence
- No material adverse change in business
- Approval by both parties' boards and shareholders
- Receipt of necessary regulatory approvals (HSR, etc.)
- Execution of definitive purchase agreement

6. Proposed Timeline

Milestones:

Proposed Timeline:
- LOI Execution: January 15, 2025
- Due Diligence Completion: March 1, 2025
- Definitive Agreement Execution: March 15, 2025
- Expected Closing: April 30, 2025

Importance: Sets expectations and creates urgency

7. Employment and Management

Key Employee Retention:

Management: Buyer intends to retain current CEO and VP Engineering
with employment agreements including:
- Competitive base salary and bonus
- Equity incentives
- 2-year retention bonuses

Broader Team:

Employees: Buyer intends to retain substantially all current
employees with comparable compensation and benefits

8. Expense Allocation

Who Pays What:

Expenses: Each party will bear its own expenses (legal, accounting,
advisory). Upon closing, Buyer will reimburse Seller for up to
$XXX,000 of reasonable transaction expenses.

Termination Fee (sometimes included):

If Seller terminates to accept a superior offer or breaches
exclusivity, Seller will pay Buyer a termination fee of $XXX,000

9. Confidentiality

Non-Disclosure:

Confidentiality: This LOI and the proposed transaction are
confidential. Neither party will disclose without the other's
consent, except as required by law or to advisors and financing
sources under confidentiality obligations

10. Non-Binding Nature

Critical Provision:

Non-Binding: Except for the provisions regarding Exclusivity,
Confidentiality, Expenses, and Governing Law, this LOI is
non-binding and does not create any obligation to complete
the proposed transaction

What IS Binding (typical):

Exclusivity / no-shop
Confidentiality
Expense provisions
Governing law and dispute resolution

What is NOT Binding:

Purchase price
Deal structure
Closing conditions
Everything else

LOI Negotiation Strategies

Buyer Strategies

1. Manage Expectations with Ranges

Propose valuation range rather than fixed price
Allows room for adjustment post-diligence
"Enterprise value of $45-50M subject to completion of diligence"

2. Build in Adjustment Mechanisms

Working capital adjustment
Earnout provisions
Holdback or escrow

3. Secure Strong Exclusivity

60-90 day period
Strict no-shop language
Termination fee if broken

4. Preserve Flexibility

Broad due diligence rights
Material adverse change provision
Condition on board approval

5. Position for Partnership

Emphasize cultural fit
Highlight growth plans for business
Stress employee retention commitment

Seller Strategies

1. Create Competition

Submit IOI vs. LOI to maintain flexibility
Shorter exclusivity periods (30-45 days)
Limited scope of no-shop

2. Maximize Price Certainty

Push for specific price, not range
Limit adjustment mechanisms
Minimize conditions and outs

3. Protect Downside

Termination fee for buyer
Expense reimbursement
Ability to restart process if buyer walks

4. Accelerate Timeline

Shorter due diligence period
Aggressive closing timeline
Create urgency

5. Ensure Employee Treatment

Specific commitments on retention
Comp and benefits protection
Management role clarity

Common LOI Negotiation Points

Purchase Price

Buyer Position:

Propose range: "$40-45M subject to diligence"
Lower number with earnout: "$35M + $10M earnout"
Significant working capital adjustment

Seller Position:

Fixed price: "$45M"
Minimal or no earnout
Small working capital collar

Compromise:

Narrow range with limited adjustment
Small earnout for specific milestones
Defined working capital target and adjustment

Exclusivity Period

Buyer Position:

90 days
Strict no-shop
Termination fee if breached

Seller Position:

30 days
Ability to respond to unsolicited offers
No termination fee

Compromise:

60 days
No solicitation but can respond to unsolicited offers
Modest termination fee or expense reimbursement

Deal Structure

Buyer Position:

Asset purchase (avoid liabilities)
All cash consideration
Significant escrow/holdback

Seller Position:

Stock purchase (simpler, better tax treatment)
Cash consideration
Minimal holdback

Compromise:

Stock purchase with strong reps and warranties
Representation & warranty insurance
Reasonable escrow for indemnification

Due Diligence Scope

Buyer Position:

Unlimited access to all information
Customer and employee conversations
Detailed financial and operational review

Seller Position:

Limited disruption to business
Control over customer/employee contact
Efficient process

Compromise:

Structured diligence process
Management-led customer discussions
Agreed diligence request list

Sample LOI Outline

LETTER OF INTENT

Date: January 15, 2025

To: [Seller Company Name]

From: [Buyer Company Name]

Re: Proposed Acquisition

Dear [Seller Representative]:

This letter outlines the principal terms upon which [Buyer]
("Buyer") would be willing to acquire [Seller] ("Seller" or
"Company"):

1. TRANSACTION STRUCTURE
   - Stock purchase of 100% of outstanding equity
   - All cash transaction

2. PURCHASE PRICE
   - Enterprise Value: $45-50 million
   - Subject to customary working capital adjustment
   - Based on TTM EBITDA of $10-11 million (4.5x multiple)

3. EXCLUSIVITY
   - 60-day period from execution
   - Seller will not solicit or engage with other buyers
   - Immediate cessation of existing discussions

4. DUE DILIGENCE
   - 45-day diligence period
   - Full access to records, management, facilities
   - Buyer to conduct at own expense

5. TIMELINE
   - LOI Execution: January 15
   - Diligence Complete: March 1
   - Definitive Agreement: March 15
   - Expected Closing: April 30

6. CONDITIONS
   - Satisfactory completion of due diligence
   - No material adverse change
   - Regulatory approvals
   - Definitive documentation
   - Board and shareholder approvals

7. EMPLOYEES
   - Retain substantially all employees
   - Employment agreements for CEO and CTO
   - Comparable compensation and benefits

8. CONFIDENTIALITY
   - Terms of this LOI and transaction are confidential
   - Disclosure only as legally required or to advisors

9. EXPENSES
   - Each party bears own expenses
   - Upon closing, Buyer reimburses up to $100K of
     Seller's transaction expenses

10. NON-BINDING
    - This LOI is non-binding except for sections 3
      (Exclusivity), 8 (Confidentiality), 9 (Expenses),
      and 11 (Governing Law)

11. GOVERNING LAW
    - Governed by laws of [State]

Please indicate your acceptance by signing below.

Sincerely,

[Buyer Signature]
[Name, Title]

ACCEPTED AND AGREED:

[Seller Signature]
[Name, Title]
[Date]

After LOI Execution

Buyer Next Steps

Immediate (Week 1):

Assemble due diligence team
Prepare detailed diligence request list
Schedule management presentations
Access virtual data room
Engage legal counsel for definitive agreement

Ongoing (Weeks 2-6):

Execute comprehensive due diligence
Regular updates to senior management
Build detailed financial model
Refine valuation
Identify integration priorities

Final (Weeks 7-8):

Complete diligence reports
Make go/no-go decision
Finalize valuation and negotiate price adjustments
Move to definitive agreement negotiation

Seller Next Steps

Immediate (Week 1):

Prepare and organize data room
Brief management team on process and confidentiality
Engage legal counsel
Plan for business continuity during diligence

Ongoing (Weeks 2-6):

Respond to diligence requests
Conduct management presentations
Maintain business operations
Address buyer questions and concerns

Final (Weeks 7-8):

Negotiate any price adjustments
Review definitive agreement drafts
Prepare for board and shareholder approvals

Common LOI Mistakes

1. Too Vague or Too Specific

Problem: Either lacks critical terms or locks in details prematurely

Solution: Hit the right level of detail—key terms without overcommitting

2. Unrealistic Timeline

Problem: Aggressive timeline that can't be met

Solution: Build in buffer, be realistic about regulatory timing

3. Weak Exclusivity

Problem: Loopholes allow seller to shop the deal

Solution: Clear, enforceable no-shop with appropriate remedies

4. Overconfident on Price

Problem: Specific price without adequate diligence

Solution: Use range or clearly condition on diligence findings

5. Ignoring Tax/Legal Structure

Problem: Proposed structure has significant tax or legal issues

Solution: Consult advisors before proposing structure

6. No Expense Protection

Problem: Significant diligence costs with no recourse if seller walks

Solution: Expense reimbursement or termination fee for bad faith

7. Forgetting Employee Commitments

Problem: No clarity on employee treatment

Solution: Specific commitments on key employee retention

Best Practices

For Buyers

Do Sufficient Diligence First: Don't submit LOI too early
Preserve Flexibility: Use ranges and conditions appropriately
Secure Strong Exclusivity: This is your most important provision
Be Realistic: Don't over-promise or propose unrealistic terms
Move Quickly: Submit LOI when ready, then execute efficiently

For Sellers

Create Competition: Multiple LOIs give leverage
Read Carefully: Understand all provisions, especially what's binding
Protect Downside: Ensure you can restart process if deal fails
Maintain Leverage: Shorter exclusivity, ability to respond to offers
Get it in Writing: All important commitments should be in LOI

For Both Parties

Align on Process: Clear timeline and expectations
Build Relationship: LOI is start of partnership, not adversarial
Involve Advisors: Legal and financial counsel review
Communicate Clearly: Address concerns and questions openly
Set the Tone: Professional, collaborative approach

References

Last updated: Wed Jan 29 2025 19:00:00 GMT-0500 (Eastern Standard Time)

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