You’ve decided it’s time – time to become a business owner. But instead of building a venture from the ground up, you’d rather buy an existing company. You have spent months researching potentials, matching them with your interests and expertise. Finally, you have found “the one” that meets the right criteria and are ready to make that offer. So what’s the first step? Craft a letter of intent that will govern the process from beginning to the final sale.
If you have never drafted a letter of intent before, here’s a brief explanation of what it is and how to write one.
Just What is a Letter of Intent?
A letter of intent has one important word – intention. It is written to inform a business owner that you would like to buy his business. And it also sets forth the conditions that you are setting for the actual purchase. Once both parties have signed this agreement, the process moves forward, based on the terms listed in the letter.
When and Why Should You Write a Letter of Intent
You need to draft this letter as soon as you have decided that a business for sale meets your criteria. Why the rush?
Because this letter also obligates the seller to the terms you have included (provided they sign it). Once that’s done, you will be able to do two things:
- Get the first right of refusal should any other buyer come along.
- Set the terms and conditions for the ultimate purchase.
Legal Obligations of a Letter of Intent
A letter of intent is not legally binding unless both parties agree that it’s a point of no return, so to speak. However, it’s not a deal set in stone and both parties have the right to back out.
On the other hand, you can add specific elements to your letter of intent that will make it binding (more on this in a sec!).
How to Write A Letter of Intent in 6 Steps
Remember this: a letter of intent is not a purchase agreement. It is an outline of the steps that will be taken to get to that purchase stage.
That said: here are the sections of a typical letter of intent.
1. The Introduction
Any letter of intent for business purchases must include key summary details. Always put these in your introduction. You need to state:
- The purpose of the letter (your intent to purchase the business)
- Identify the parties involved (stating who is the buyer and who is the seller)
- Describe the business property and its location.
2. Description of the Transaction and the Timeline
This part basically says that you intend to purchase the business (real property and physical assets should be included, if appropriate) and set a timeline for completion of the deal. You need a timeline so that you can do your due diligence. Also, the timeline lets the seller know how long their sale may be “tied up.”
Contingencies are conditions that you set before a purchase will be made. For example, you want to see financial records for the past five years. Maybe the deal is contingent on you getting financing to make the purchase. Maybe you want the building and equipment inspected.
Outline your contingency requests in the letter.
4. Due Diligence
Due diligence is the process that a buyer will typically go through to check out all of the details about a business – sales, overhead, profit margins, business records, liabilities, liens, pending litigation.
While you may not specify every detail of what you will be looking for, you should include the documents you will be requesting, such as accounting and tax records. The seller may need some time to gather them.
5. Add Legally Binding Elements
You may want to have some provisions that are legally binding such as:
Non-Compete Agreement: This clause is usually to protect the seller. A buyer may gain proprietary information about a business or its customers and then use that information to start a competitive business.
Non-Disclosure prevents either party from using information they have gained to their own benefit or to damage the other party in some way. Suppose you learn of a pending lawsuit and you back out of the deal. You cannot then disclose this to others.
Non-Solicitation prevents the buyer from trying to “steal” customers or employees.
Right of First Refusal: If another buyer shows up, the seller is obliged to notify you of the third-party interest. If that’s the case, you will have the right to either go ahead with the purchase or back out.
Responsibility for Expenses: If there are expenses involved during the exploratory period (legal, document gathering, travel, etc.), who will be responsible? And if the purchase goes through, which expenses will each part assume?
You should repeat that this is a letter of intent and is not binding on either party, other than those binding exceptions you have listed. You should also provide an ending date so that either of you can abandon the deal.
Both should sign and have those signatures notarized.
Buying a Business? Always Get Legal Advice!
Even though intent letters may not be legally binding, you do want to protect yourself and make sure you have included everything you should. If the deal is not complex, you may be able to write your own. But still, have an attorney look it over. and “iron out” some details.
Photo by Roman Drits