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The Anatomy Of A Letter Of Intent

In the exciting and jargon filled word of mergers and acquisitions, you may often find reference being made to a letter of intent. But what exactly is a letter of intent (LOI)? Given the importance of an LOI it is crucial to answering this question, as well as other common questions we come across when dealing with LOIs.

What is an LOI?
The best way to describe an LOI is to think of it as a roadmap to a transaction. An LOI typically outlines the terms and conditions of an offer from a buyer to a seller. Expressed otherwise, an LOI is a written expression of a buyer’s intention to purchase the business of a seller and together with its terms to the seller indicates the buyer’s intention for the transaction.

What is the difference between a binding and non-binding LOI?
Unlike most contracts, the terms of an LOI are typically non-binding unless the parties agree that the whole or certain parts of an LOI are binding.

It is therefore important for sellers to remember that the terms contained in the LOI may not always be the terms that the buyer and the seller settle on (assuming, of course, the parties agree that the terms are not wholly or partially binding).

What are the common terms of an LOI?
While each LOI will be different, certain recurring themes appear. The most common ones are:

1. The parties
Although this seems obvious, it is critical that the correct parties are cited. Large corporations tend to have various subsidiaries and affiliated companies, and it is important for both parties to understand who exactly they are dealing with.

2. Structure of the transaction
This part of an LOI will describe how the transaction will be concluded. Is the transaction a purchase of the shares, a sale of assets, or a combination of both? Depending on the jurisdiction in which the transaction takes place, the structure will have to be carefully considered to ensure that parties are aware of how exactly ownership will change.

3. Consideration
The consideration is the payment that the seller will receive from the buyer. There are various ways in which to structure consideration. For example, the buyer can agree to pay a portion upfront with the remaining portion being paid subject to certain conditions being met once ownership changes.

4. Purchase price adjustments
Purchase price adjustments are used to adjust the purchase price for movements in working capital accounts (such as accounts receivable, inventory, and accounts payable) between the execution of the LOI and the transaction being finalised.

5. Conditions to closing
This part of the LOI will include the expectations and obligations of the buyer and seller, which are specific to them. For example, a buyer may need to get approval from regulatory bodies prior to concluding a transaction.

6. Confidentiality and non-disclosure clauses
Following the signature of an LOI, a buyer will typically receive sensitive information from a seller regarding its business. In addition, a seller may receive sensitive information from a buyer. It is crucial to agree on what information may be disclosed, to whom the information may be disclosed (such as accountants and legal counsels) and for what period the information needs to remain confidential.

7. Exclusivity
LOI’s typically include an exclusivity provision in terms of which the buyer asks the seller not to negotiate with other prospects for a pre-determined time period. As a seller, it is within your best interests to ensure that the exclusivity period is as short as necessary and that the terms are well defined.

What are the benefits of an LOI?
A properly drafted LOI will address key terms, remove ambiguity and thereby benefit both the buyer and the seller as it often reduces the amount of time and costs spent on revisiting negotiating.

Many business owners will only sell a business once in their lifetime. When dealing with such a monumental event, a little more preparation today is certainly worth added value tomorrow. Advice from seasoned professionals can provide you with savings in costs and time in helping you sell your business. At Benchmark International, we are proud to provide world-class mergers and acquisitions services.


Author

John Lousber
Transaction Associate
Benchmark International

T: +27 (0) 21 300 2055
E: loubser@benchmarkintl.com

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Upcoming Webinar: 12 Biggest Mistakes Sellers Make in the Term Sheet

Date:
Tuesday, February 12th at 10:00am - 11:00am EST

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Details:

Maximizing value isn’t only about the headline price. It’s about getting the deal right, using your leverage when you have it, and knowing where you stand in the deal at all times. 

Sellers lose more money at the Term Sheet stage than in any other part of the process. Buyers know the ins and outs. They know how to best use the Term Sheet and the process that surrounds it to make their offers look better than they might end up being. For sellers, this is typically the least understood part of the company sale process. This experience gap is unfortunate for sellers because it results in not only lost value but at times the loss of the entire deal; a loss that comes after a great deal of financial and emotional investment. 

For sellers to truly maximize the value of their business in a sale, they must look beyond the headline number that usually appears in the first paragraph of the Term Sheet and understand the other key value drivers in the rest of the document. If the headline number was the only key term, Term Sheet’s would be one paragraph long. This quick introduction will concentrate on the 12 most common sell-side errors in the Term Sheet process.

Hosts:

Clinton Johnston
Managing Director
Benchmark International

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What is included in the M&A due diligence?

The due diligence process is one of the final steps in an M&A transaction where the potential buyer does its obligation to best confirm and verify the seller's company data and relevant information. This information typically includes but not limited to: financials, IT, operations, legal & compliance, insurance, corporate bylaws, contracts, customers, among other important information. Typically, the due diligence process follows the execution of a letter of intent (LOI), a non-binding document outlining the intent of both parties to commit to the transaction.

Once the LOI has been executed, the buyer will request a list of items to be shared by the seller with the intention of disclosing the selling company’s key details that could uncover risk buyer. As mentioned before, items can range all the way from financials to operations to insurance to contracts, among others. In cases where the seller owns the real estate, additional documents pertaining to the real estate, such as: deeds, mortgages, tax documents, owners’ insurance, etc. will need to be provided. Given today’s advancements in technology, once the due diligence request list has been sent to the seller, the team leading the deal will proceed to open what we call in the M&A world a “virtual data room” or a “data room.” These two terms are referred to as online portals that hold and store the information requested by the buyer with high levels of security only available for certain parties, including: buyer, seller, M&A attorneys, CPAs, advisors, among others. The data room allows activity within the room to be tracked and archived so there is a file of the information exchange after closing should any issues arise.

Once the due diligence starts, it is highly recommended for the buyer to hold, at the very least, weekly meetings or calls with the seller to discuss outstanding items or any questions that may have arisen from the process. As the due diligence process progresses, the buyer will become more familiar with the seller’s company. For an instance, should the buyer find any items that may play against the seller in the due diligence process, the buyer may use this to lower the valuation of the business which may ultimately result in a lower offer price.

In addition, this process can result as a discovery of potential opportunity to better structure the deal, find real synergies among parties, review any benefits and challenges for potential system integrations, and any associated risks that may arise from the result of this potential acquisition. 

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Letter of Intent for Mergers and Acquisitions

In a corporate merger or acquisition, it is imperative to make sure that both companies involved are on the same page in the early stages of the process. M&A is complicated and require costly resources, therefore it is important to know what each party is prepared to offer before proceeding with the transaction. One method to make sure that both parties are on the same page is to draft and produce a letter of intent (LOI), which outlines the deal points of the merger or acquisition and serves as a type of “agreement to agree”.

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