Letters of intent (“LOI”) are commonplace in business transactions but the nuances of an LOI, in particular what traps exist for the unwary or those who are not utilizing counsel, can be misunderstood, especially because an LOI contains both binding and non-binding provisions. An LOI is a proposal or term sheet that helps a potential buyer and seller identify the main proposed business terms of a transaction. It is not (or should not be) an offer or letter agreement.

The non-binding portion of an LOI is where the parties will devote most of their attention because it contains the business proposals particular to the subject deal, such as identifying the assets being sold, the purchase price, any financing involved, and the closing date. The binding portion of an LOI contains the legal protections for the parties, such as confidentiality, non-piracy or non-shopping, timing for the execution of the definitive agreement, a potential inspection or “due diligence” period, and payment of expenses leading up to the definitive agreement.

It is obviously a significant problem if parties fail to make clear the business proposals of an LOI are not binding. Texas courts can lean toward enforcing a document that looks like a contract and will look to whether the parties intended to be bound and whether there are enough material terms to enforce. Clarity is vital and the language used is of the utmost importance, which is why drafting with the assistance of counsel is recommended. For example, the use of “offer” should be avoided at all costs.

Unambiguous and the appropriate language in the non-binding provision of an LOI are also essential to managing the parties’ expectations. For example, the LOT might state the purchase price will be $1 million but after completion of due diligence, the buyer may determine the maximum purchase price it is will pay is less. It is common for a seller to claim to the buyer agreed to a $1 million purchase price, which can cause negotiations to go off the rails and the deal to fall apart. Using counsel during this period can help manage the expectations of both buyer and seller by clarifying early and often that the business proposals in the LOI are nonbinding and the business terms are subject to change.

If you have any questions about an LOI, or anything else related to business transactions, please contact the author, Steve Holmes at 214-520-3300 or sholmes@settlepou.com.