Letter of intent and confidentiality agreement for a business acquisition: What clauses should be included?
5-minute read
This is it! You have set your sights on an interesting target for your business acquisition. To pursue discussions with the seller, it is customary to sign a confidentiality agreement and to write a letter of intent.
In addition to confirming your interest in the business acquisition, these documents will serve as a backdrop for the upcoming negotiations while protecting the sensitive information of the target and the seller.
Follow the advice below to draft a document that provides optimal protection for each party.
Confidentiality agreement
The letter of intent is very often preceded by a confidentiality agreement that aims to protect the information and documents belonging to both parties. This includes financial data, customer and supplier lists, and intellectual property information that will be communicated in the due diligence process.
"This confidentiality agreement is essential for the potential buyer to have access to the information he or she needs to formulate a letter of intent, to submit an offer or, if necessary, to withdraw interest. The potential buyer therefore agrees that the information may be used only for the purposes of evaluating the proposed transaction," explains Pierre Marquis, Senior Counsel at BDC.
The letter of intent
The letter of intent generally acts as a catalyst to advance the acquisition process.
The document will reassure the seller of your willingness to submit a potential bid, will help lay down the key elements of the transaction and, if needed, can also assure you a period of exclusivity during which you will be able to conduct the negotiations.
"The letter of intent sets out the terms of the acquisition process and provides insight into what the final offer might look like," says Marquis.
The document is of a legal nature; however, it is not intended to be fully binding, unless otherwise expressly stipulated.
"At this stage of the negotiations, the buyer and the seller are usually not required to make an official offer to proceed with a transaction. Nevertheless, where so provided, the letter of intent will create binding obligations on one party or the other, particularly with regard to confidentiality and exclusivity," Mr. Marquis explains.
Clauses to be included in a letter of intent
The letter of intent may include general clauses and more specific ones, such as:
- the nature of the proposed transaction
- identification of the people involved
- a price range for the acquisition, subject to amendment, and the terms of payment (the final price will be determined only once the due diligence process has been completed)
- the duration of exclusivity of the negotiations, i.e. the period during which the seller agrees not to solicit or consider other offers for purchase without first speaking with the buyer, and the penalties associated with breaching this commitment
- the distribution and responsibility for costs inherent to the proposed transaction, whether closed or not, which may vary from $10,000 to $100,000 or more depending on the nature and complexity of the transaction
- a stipulation that the buyer may withdraw from the process at any time if the transaction does not provide the expected gains
- the usual closing conditions of the transaction
A document that can have a legal weight
Although the letter of intent is not intended to create a contractual obligation to close a deal, this does not preclude it from having legal weight.
"A letter of intent usually consists of just a few pages, but it can be so much more detailed that it can be difficult to recognize the difference between the letter of intent and a formal purchase offer," says Mr. Marquis. "This can lead to a dispute by one of the parties in case of withdrawal, for example. There are cases that have ended up in court."
It is best to contact an attorney specialized in transactional law early in the process, who will provide a good legal framework so that the documents correspond perfectly to your intentions.
For this reason, it is also best to avoid using a letter of intent template found online.
"The document can take on many forms depending on the nature of the transaction and the needs of the parties," Pierre Marquis explains. "It will be difficult to find an appropriate template."
Once the main transaction parameters have been listed in the letter of intent, it will be time to proceed with thorough due diligence. Only after that will you be able to write the final agreements that will lead to closing the acquisition.
Glossary
A document between a seller and a prospective buyer that establishes the main terms and conditions of a proposed transaction for the purpose of directing and facilitating the negotiation of the final terms. The letter of intent does not usually obligate the buyer as a formal purchase offer does. It must be signed by the seller, the buyer and the other parties involved, as the case may be.
Document prepared prior to or concurrently with the letter of intent where a party undertakes not to use, disclose or permit the disclosure of confidential information that will be transmitted to him or her during the negotiations and the due diligence process, except for the purposes of evaluating his or her participation in the proposed transaction. This information may originate from both written documents and discussions with the seller, directors, employees or representatives of the target company.
The content of this article is provided for general information purposes only and does not constitute legal advice. Readers are encouraged to consult their own legal counsel to obtain the legal advice they need regarding any particular legal matter.