Letters of Intent and Term Sheets in a Business Purchase

The letter of intent is the document that marks the moment when a business purchase transaction stops being theoretical and starts being real. Before the LOI, the parties are exchanging information and exploring whether a deal makes sense. After the LOI, the parties have agreed on the major commercial terms and are working toward a definitive agreement and closing. The LOI itself is short compared to the definitive agreement that follows, often running ten to twenty pages where the purchase agreement will run a hundred or more. But the LOI shapes everything that comes after. The commercial terms agreed in the LOI are extremely difficult to renegotiate once the parties move into definitive documentation. The procedural provisions in the LOI, including exclusivity, confidentiality, and the timing of due diligence, become binding contractual obligations the moment the LOI is signed. This guide explains how letters of intent and term sheets work in New York business purchase transactions, which provisions are binding and which are not, the exclusivity and break-fee mechanics, the standard subjects covered, and the common pitfalls. For broader context on the business purchase framework, our guide to buying or selling a business in New York covers the full transaction arc.

Letter of Intent versus Term Sheet versus MOU

The terminology in this area is somewhat fluid, and the same document can be called by different names depending on regional practice, deal type, and the parties' preferences. Understanding the distinctions is more useful than worrying about the labels.

A letter of intent (LOI) is typically a formal written document, signed by both parties, setting forth the principal terms of the proposed transaction and the procedural obligations the parties have agreed to follow as they negotiate the definitive agreement. LOIs are most common in business purchase transactions for closely-held businesses, where the document serves as the framework for moving from preliminary discussions to definitive documentation.

A term sheet is generally a more abbreviated document covering the same ground in bullet-point form. Term sheets are common in venture capital financing, where the standardized format makes for quick comparison across multiple potential investors, and they also appear in business purchase deals, particularly for sophisticated parties who prefer the format. Term sheets are sometimes signed and sometimes left unsigned, with execution of the definitive agreement serving as the parties' formal commitment.

A memorandum of understanding (MOU) is similar to an LOI but is more commonly used in international transactions and in non-commercial contexts (joint research arrangements, government partnerships). An MOU in a commercial transaction typically functions like an LOI.

For this guide we use letter of intent and LOI as the primary terms, with term sheet treated as functionally equivalent in most business purchase contexts. The substantive issues covered here apply regardless of which label the document carries.

The Binding versus Non-Binding Architecture

The most important structural feature of a typical LOI is that some provisions are binding while others are not. The non-binding provisions are statements of the parties' current intent regarding the commercial terms of the deal. The binding provisions are contractual obligations that take effect immediately on signing. Understanding which provisions fall into which category is essential to using the LOI properly.

The non-binding provisions typically include the purchase price, the structure of the transaction (stock versus asset, cash versus stock consideration, earnouts, escrows), the indemnification framework, and any post-closing commitments by either party. These provisions reflect what the parties currently expect the definitive agreement to provide, but they do not legally commit either party to anything. Either party can walk away from the deal up to the moment of executing the definitive agreement.

The binding provisions typically include confidentiality (both parties commit to keep deal information confidential), exclusivity or no-shop (the seller commits not to solicit or accept competing offers for a defined period), expense allocation (who bears the cost of various pre-signing work), governing law and dispute resolution (which jurisdiction's law applies and where disputes are resolved), and the LOI's own termination provisions (how the LOI itself ends).

The LOI's text should be clear about which provisions are binding and which are not. A common approach is to state at the outset that the LOI is non-binding in its entirety except for specifically enumerated sections, which are then identified explicitly. This belt-and-suspenders approach prevents disputes later about whether a particular provision created an enforceable obligation.

Drafting that is sloppy on this point can produce serious problems. Courts have held parties to specific commercial terms in an LOI where the document used language suggesting binding commitment (committed, agreed to, will pay), even where the document was generally described as non-binding. New York courts have been less willing than some other jurisdictions to find binding commitment in this scenario, but the risk exists, and careful drafting is the only protection.

Exclusivity and No-Shop Provisions

Exclusivity is one of the most heavily negotiated provisions in any LOI. The buyer wants exclusivity to ensure that the substantial investment of time and money in due diligence and definitive documentation is not wasted by the seller running a competing process or accepting a competing offer. The seller wants flexibility, particularly when other interested parties may emerge.

Standard exclusivity periods run 30 to 90 days in middle-market deals, with longer periods in larger or more complex transactions. The period starts on signing the LOI and runs through either the execution of the definitive agreement or a defined drop-dead date, whichever is earlier. Some LOIs include automatic extensions tied to milestones (the period extends as long as the parties continue to make defined progress).

During the exclusivity period, the seller agrees not to solicit competing offers, not to engage in discussions with other potential acquirers about a transaction, and not to provide non-public information to other potential acquirers. The seller may also agree not to accept unsolicited competing offers, though this provision varies based on the seller's fiduciary considerations (particularly for sellers with multiple stakeholders).

Sellers in formal auction processes do not grant exclusivity at the LOI stage and instead use the LOI to advance the highest bidder while maintaining the auction process. In non-auction transactions, exclusivity is the buyer's principal protection against being used as a stalking horse. Without exclusivity, a seller can use the buyer's LOI as a benchmark to attract higher competing bids, leaving the buyer with sunk costs and no deal.

Exclusivity can include a fiduciary out, particularly for sellers with multiple stakeholders or sellers with board-level fiduciary duties to consider unsolicited offers. The fiduciary out permits the seller to engage with a superior unsolicited offer, typically with notice to the buyer and an opportunity for the buyer to match. Negotiating the fiduciary out is one of the more sophisticated parts of an LOI for sophisticated deals.

Confidentiality and Information Exchange

The LOI typically incorporates or references a confidentiality agreement (NDA) covering the parties' exchange of due diligence information. The NDA may be a separate document signed earlier (common when due diligence began before the LOI) or may be incorporated into the LOI itself.

Standard confidentiality provisions cover the buyer's use of the seller's information, the seller's use of the buyer's information (relevant where the buyer is providing stock or earnout consideration with information sharing requirements), the parties' obligations to keep the existence and terms of negotiations confidential, and the buyer's commitments regarding employee solicitation and customer poaching during a defined period.

Employee non-solicitation is particularly important. A buyer that gets access to the seller's organizational charts, financial information, and operational details, then walks away from the deal and hires the seller's key employees, has effectively gotten significant competitive intelligence at the seller's expense. The non-solicitation provision typically runs for 12 to 24 months from the date of the LOI and covers active solicitation, with passive responses to applications often excluded.

Customer and supplier non-solicitation provisions are sometimes included but are less common because they are harder to enforce and harder to scope. A buyer who has identified the seller's key customers through due diligence has competitively useful information, but the line between using that information appropriately (because the buyer would have learned of these customers anyway through market activity) and using it inappropriately (because the buyer learned through the LOI process) is often hard to draw.

Confidentiality and non-solicitation are typically binding provisions of the LOI even when the commercial terms are not. They survive termination of the LOI for their stated periods, providing protection even where the deal falls through.

Commercial Terms in the LOI

The non-binding commercial terms in the LOI set the framework for the definitive agreement. While not legally binding, they create strong commercial expectation and are very difficult to renegotiate without damaging the deal. The LOI should be specific enough about commercial terms to avoid major disputes during definitive documentation but flexible enough to accommodate issues that surface during diligence.

Purchase Price and Structure

The LOI states the purchase price and the structure of consideration. Cash deals state the dollar amount and any adjustments (typically working capital adjustment, debt-like items adjustment, and cash adjustment). Stock deals state the share count or exchange ratio. Mixed-consideration deals state the cash and stock components.

The LOI should also address the structure of the transaction: stock purchase, asset purchase, or merger. Each has different tax and liability consequences, and the structure choice typically affects the price. The LOI should reflect any structure-specific assumptions in the price.

Earnouts, Holdbacks, and Escrows

Many business purchase deals include earnouts (post-closing consideration contingent on the business achieving defined milestones) and escrows or holdbacks (a portion of the purchase price held back to fund potential indemnification claims). The LOI should describe these arrangements in enough detail that the parties understand the framework, while leaving the operational details for the definitive agreement.

Earnouts are particularly fraught. The seller wants the earnout to be calculable and achievable, with limited buyer discretion to take actions that defeat the earnout. The buyer wants flexibility to operate the business as it sees fit, including making decisions that may affect earnout achievement. The LOI should set the framework, including the metrics, the period, the maximum potential payment, and any protective covenants.

Indemnification Framework

The LOI typically states the basic indemnification framework: the survival period for representations and warranties, the basket (the threshold below which claims are not paid), the cap (the maximum aggregate indemnification), and any exclusions from the standard framework. Fundamental representations (corporate authority, title to shares, key tax matters) typically survive longer and are capped at the full purchase price, while business representations typically survive 12 to 24 months and are capped at a percentage of the purchase price.

Representation and warranty insurance, increasingly common in middle-market deals, can substantially change the indemnification framework. The LOI should address whether R&W insurance is contemplated and how it interacts with the seller's indemnification obligations.

Conditions to Closing

The LOI typically lists the principal conditions to closing: financing (if applicable), regulatory approvals, material adverse change protection, employee retention, customer consents, and any other conditions material to the deal. The LOI should be specific enough about these conditions to avoid surprise in definitive documentation.

Due Diligence Obligations

The LOI typically defines the framework for due diligence: the scope of access the seller will provide, the timing for completion of due diligence, and the buyer's obligations regarding due diligence costs and document handling.

Seller obligations during diligence include providing access to specified categories of information (financial records, customer and supplier contracts, employment matters, regulatory filings, intellectual property, litigation, environmental matters, and others), making management available for diligence interviews, and updating any disclosures as conditions change during the diligence period. The seller's obligations are typically conditioned on the buyer's compliance with confidentiality.

Buyer obligations during diligence include limits on the scope of information requests, restrictions on direct contact with employees, customers, suppliers, and other third parties without seller consent, and obligations regarding the handling and return of confidential information. The diligence framework should balance the buyer's legitimate need for thorough investigation against the seller's interest in avoiding disruption to the business and avoiding leaks of confidential information.

Diligence timing is often a key negotiation point. The buyer wants enough time to do a thorough job. The seller wants the diligence period to be bounded so the exclusivity period is not consumed by extended diligence. A common structure provides 30 to 60 days for diligence with the parties moving in parallel to definitive documentation. Complex deals may require longer; routine deals can move faster.

Break Fees and Termination

Some LOIs include break fees payable by one party to the other if the deal terminates under specified circumstances. Break fees are more common in public-company acquisitions than in private deals, but they appear in private deals as well, particularly where one party has incurred substantial sunk costs.

Reverse break fees are paid by the buyer to the seller if the buyer terminates without justification, typically used when the buyer has the discretion to walk away (financing-contingent deals, regulatory-contingent deals, or deals where the buyer has board approval still pending). Termination fees paid by the seller to the buyer are less common in private deals because the seller's principal incentive to close is the purchase price itself.

The LOI should also address termination of the LOI itself: when and how the LOI ends, what survives termination (confidentiality, non-solicitation, exclusivity for any remainder of the original period, expense allocation), and any obligations triggered by termination.

Most LOIs include a drop-dead date by which the definitive agreement must be signed, after which the LOI terminates automatically. The drop-dead date should align with the expected diligence and documentation timeline, with some buffer for negotiation. Drop-dead dates that are too aggressive create pressure to close before the parties are ready; drop-dead dates that are too generous let the parties drift.

Common Mistakes in LOIs

Several recurring problems show up when LOIs are reviewed after the fact. Each is preventable with careful drafting and review.

• Vague non-binding/binding distinction. An LOI that does not clearly state which provisions are binding invites later disputes. The document should explicitly identify the binding sections.
• Using committed-sounding language for non-binding terms. Even with a non-binding statement at the top of the document, phrases like 'the parties agree to' or 'the buyer commits to' in the commercial section can be cited as evidence of binding commitment. Use language like 'the parties contemplate' or 'the buyer intends to'.
• Insufficient detail on commercial terms. An LOI that is too vague on commercial terms invites surprise during definitive documentation. The major terms should be specific enough that the parties have a real understanding of the deal.
• Excessive detail on commercial terms. An LOI that tries to anticipate every issue at the LOI stage slows down negotiation and may lock in terms that should remain flexible. The definitive agreement is where details belong.
• Inadequate exclusivity. Buyers who take on diligence costs without exclusivity are exposed to being used as a stalking horse. Exclusivity should be commensurate with the buyer's expected investment in the deal.
• Sloppy fiduciary out provisions. Sellers with stakeholder responsibilities need fiduciary outs to consider superior unsolicited offers. The fiduciary out should be carefully drafted to limit gaming and to protect the buyer's match rights.
• No clear termination provisions. An LOI without clear termination provisions can persist past the point of practical relevance. The LOI should specify when it ends and what survives.
• Not coordinating with definitive documentation counsel. The LOI shapes the definitive agreement. The lawyer drafting the definitive should be involved in or briefed on the LOI to ensure consistency and to anticipate documentation issues.

Strategic Use of the LOI

The LOI is not just a procedural document. It is a strategic tool that shapes the negotiating dynamic for the entire transaction. Sophisticated parties think carefully about how to use the LOI to advance their position.

Buyers benefit from getting commercial terms locked in at the LOI stage, when negotiating leverage is high (the seller is excited about the deal, has not yet incurred substantial costs, and has not yet committed to exclusivity). After exclusivity is granted and diligence is underway, the seller's leverage diminishes because the seller has fewer options if the deal breaks down. Buyers who win key terms at the LOI stage benefit throughout the rest of the deal.

Sellers benefit from being precise about the terms they want and being firm on the items that matter most. A seller who gives in too easily at the LOI stage will find those concessions baked into the deal economics. The LOI is a one-time opportunity to set the commercial framework, and sellers should treat it accordingly.

Both parties benefit from involving experienced counsel at the LOI stage. The temptation to handle the LOI informally, with definitive lawyers coming in only at the purchase agreement stage, creates downstream problems. The LOI is short but consequential, and counsel involvement at this stage often saves significant time and money later.

For broader context on the full business purchase lifecycle, our guide to buying or selling a business in New York walks through the framework from initial approach to closing.

How Agarunov Law Firm Helps with LOIs and Business Purchase Transactions

At Agarunov Law Firm we represent buyers and sellers in business purchase transactions across multiple industries in New York and the surrounding region. Our work begins at the LOI stage with strategic counsel on commercial terms, drafting and negotiation of the LOI, and coordination with the parties' broader advisory teams (accountants, financial advisors, tax counsel). We continue through definitive documentation, due diligence coordination, regulatory work where required, and closing. Our office at 30 Broad Street in Manhattan's Financial District serves clients throughout New York City and the broader region. For broader business law context, our New York business law practice page describes the full scope of representation we offer. For coverage of related transactional topics, see our buying or selling a business guide, our buy-sell agreement guide, and our shareholder disputes guide.

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