Letter of Intent (LOI)
Definition - What does Letter of Intent (LOI) mean?
A letter of intent (LOI) is the term sheet that a buyer puts forward to a potential target stipulating the purchase price, terms and conditions governing the offer. The purchase price or enterprise value is often presented first. However, a LOI also must specify the transaction structure, including what percentage of the purchase price is being offered in cash and non-cash consideration, such as equity in the buyer, vendor take back financing and earnouts, etc.
In addition to the purchase price, a well structured LOI clearly stipulates the following terms:
- The amount of non-cash working capital that is expected to support the enterprise value;
- The fair market value of any capital assets that support the deal;
- The value of the equity in the buyer that the seller retains;
- The interest rate and terms of any vendor take back financing being offered to the seller; and
- The buyer's expectations from the sellers regarding go forward employment.
- The ability for the buyer to secure adequate financing for the transaction;
- The satisfactory completion of due diligence on the seller; and
- Any disclosures or representations from the seller that are built into the buyer's financial modelling of the target company post transaction.
Lastly, a LOI stipulates all key dates, including when due diligence is to commence and finish, completion of financing, completion of major agreements and, finally, the closing date.
Divestopedia explains Letter of Intent (LOI)
While having multiple LOIs may seem like a good strategy for a seller to maximize the purchase price, this is not necessarily a good approach. It is actually much better to have one or two LOIs from reputable buyers who actually have the financial capacity and track record of closing transactions. Oftentimes, buyers will float LOIs just to tie up sellers, and then begin the process of finding capital. This process is not conducive for serious sellers, and it typically ends with the transaction falling apart.
LOIs are not binding, which means either the seller or the buyer can walk away. The only contractual obligation the seller has relates to confidentiality and exclusivity. Once a seller receives a LOI, the details cannot be disclosed, as this puts the buyer and transaction in potential jeopardy. However, beyond confidentiality, sellers can walk away from transactions after the LOI is received if their own due diligence on the buyer does not check out. Thus, sellers should scrutinize the buyer during the due diligence process just as diligently as the buyer does to ensure they have viable party on the other side of the LOI.
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