6: Submit a Letter of Intent

*Note: This page is only applicable to individual buyers, or those who want us to prepare the Letter of Intent on their behalf.

Following is a summary of the next steps in the process if you wish to submit an offer on the business:

• Step 1 Term Sheet: The Term Sheet, which you complete, is a summary of the key terms you should consider before submitting an offer on the business. These terms are needed to prepare the LOI. 
• Step 2 Letter of Intent: You can have your attorney prepare the LOI for you or request that we prepare it on your behalf.

Step 1 – Term Sheet

The Term Sheet is a list of items you should consider before making an offer on a business. It’s for discussion purposes only and allows you to focus on the key terms of the transaction without concerning how those terms will be documented. You can use the Term Sheet as a tool to communicate the terms you’d like to propose to your attorney so they can prepare the LOI, or provide us with the key terms (i.e, the Term Sheet) you’d like to propose and we will draft the LOI for you.

The Term Sheet is a short list of the critical terms of the transaction, such as the purchase price, cash down payment, seller financing terms, length of time for due diligence, transition agreement, non-compete agreement, contingencies, and other essential terms.

You’ll want to decide on the following essential terms before you submit an offer:

Purchase Price

• The purchase price you are proposing

Consideration (how the purchase price will be paid)

• Earnest money deposit, if applicable
• Cash down payment and source of funds (e.g., cash, bank financing, etc.)
• Additional deposit on completion of due diligence
• Sources of financing
• Terms of the seller note, such as the amortization period and interest rate

Transition Period

• Proposed training included in the purchase price
• Proposed hourly rate for additional training not included in the purchase price

Conditions

• Any contingencies

Timing

• Length of the due diligence period

Step 2 – Letter of Intent

We commonly draft the LOI if the buyer is an individual or smaller company. The buyer commonly drafts the LOI if they’re a private equity firm or other institutional buyer (e.g., family office, search fund, etc.). If we prepare the LOI on your behalf, the basic terms need to be outlined in the Term Sheet before we draft the LOI, and then you’ll have the opportunity to review it before it’s presented to the seller.

Contingencies

Even though the LOI we draft is non-binding, for the sake of clarity, it will contain a list of contingencies the parties will attempt to resolve before closing occurs. These can include the buyer obtaining approval for a license, securing bank financing, or numerous other contingencies.

LOI vs. the Purchase Agreement

The LOI doesn’t contain the necessary language to complete closing, but it allows both parties to commit to the essential terms so they can begin due diligence and work toward preparing the purchase agreement. The LOI is superseded by the purchase agreement at, or prior to closing. Remember, you’re not committed to the transaction until the due diligence period has concluded and all contingencies have been resolved.

Primary Components of the LOI

Purchase Price and Terms

• Earnest money deposit, if applicable
• Seller note — length, interest rate
• Bank financing

Legal Transaction Structure 

• Asset Sale: In an asset sale, the buyer (e.g., John Smith) or their entity (Corporation, LLC, etc.) purchases the individual assets of the business from the seller. The seller retains ownership of the entity after closing. John Smith forms an entity, and that entity purchases the individual assets of the seller (technically, the seller’s entity: Corporation, LLC, etc.). The parties jointly decide which assets and liabilities are included in that transfer. The sale usually includes all hard assets necessary to operate the business, such as equipment, supplies, and inventory.
• Stock Sale: In a stock sale, the seller (e.g., Jane Jones, as an individual) sells the actual ownership of their entity (Corporation, LLC, etc.) to the buyer. In a stock sale, the buyer purchases the Jones entity (Corporation, LLC, etc.). By purchasing the entity, the buyer then assumes ownership of the assets and liabilities owned by the entity.

Due Diligence

• Length of the due diligence period

Contingencies

• Bank financing
• Third-party approvals — landlord, franchisor, distributor, etc.
• Licensing

Expiration Date

• The LOI should include an expiration date so you don’t have an open-ended commitment.

Assets Included in the Purchase Price

Included Assets – The purchase price usually includes the following assets:

• Furniture, fixtures, equipment, vehicles, and all other hard assets used in the business
• Leasehold improvements
• Transition period
• Covenant not to compete
• Business name, website, email addresses, phone numbers, software
• Business records, financial records, client and customer lists, marketing materials, contract rights
• Trade secrets (whether registered or not), intellectual property (patents, trademarks, etc.)
• Transfer of licenses and permits

Excluded Assets – The asking price does NOT typically include the following assets:

• Real estate and land (this can be sold but should be priced separately). If the real estate is also being offered for sale, it’s customary to prepare a separate purchase agreement for the purchase of the real estate property.
• Assumption of any long-term liabilities or debt
• The seller’s entity (Corporation/LLC), unless the sale is structured as a stock sale

Earnest Money Deposit

If the seller accepts your LOI and you’re an individual or represent a smaller company that has made no previous acquisitions, we will request that you submit an initial earnest money deposit, which is typically 5% of the purchase price. The earnest money is preferably held by a neutral third party, such as an escrow agent, and applied toward the purchase price at closing. If you would like to avoid using an escrow firm to hold the earnest money, then the seller or their attorney can alternatively hold the earnest money deposit. Earnest money deposits offer demonstrable proof that you have a legitimate interest in the business and help secure the seller’s cooperation. They’re generally not required from institutional buyers.

Hiring an Attorney

If you propose an LOI with a complicated deal structure, we recommend that you hire an M&A attorney to assist you in preparing it. 

We frequently encounter buyers who draft their own letters of intent by downloading a form online and then editing it. While doing so may be fine for a transaction with a simple deal structure, it rarely works out for transactions with more complicated deal structures. In many cases, the math does not work out properly, or key clauses are missing (e.g., net working capital). Hiring an attorney is in your own best interests.

If you wish to refrain from spending the money on an attorney, we recommend you submit an IOI first, before a LOI, unless you have already done so.

Please contact us if you would like a referral to an M&A attorney. 

Asking Price vs. No Asking Price

Some businesses we represent are marketed without an asking price. If this is the case, we cannot provide any pricing or valuation guidance on that particular business. We’ll consider the offers that meet our valuation of the business. We’ll likely counter if your offer is close to our expectations. However, if your offer is significantly below what we think the business is worth, we may reject the offer outright.

When Due Diligence Starts

When buying a business, your offer must be accepted before you can begin conducting due diligence. The seller’s representations are then verified only after the LOI is accepted. Before receiving an offer, most sellers are cautious about the information they’re willing to share with a party. If all buyers conducted their due diligence before making an offer, sellers would spend a tremendous amount of time with many buyers who may never make an offer in the end.

Frequently Asked Questions

Do I need to hire an attorney? Hiring an attorney is not always necessary if the transaction structure is simple. However, if you would like to do so, then we encourage you to hire an attorney to represent you.

Can you disclose the seller’s price expectations if the business does not have an asking price? No. For businesses without an asking price, the seller often does not have specific expectations, and our aim is to sell the business to the highest bidder, the most attractive deal structure, or the best fit. Additionally, the purchase price cannot be considered in isolation as the proposed deal structure will impact the seller’s purchase price expectations. For example, a highly favorable deal structure (e.g., high down payment and/or high interest rate on a seller note) can justify a lower purchase price, and vice versa. Additionally, many other factors can impact how attractive an offer is to the seller, and all of these factors must be taken into account when evaluating an offer.

Can you disclose the terms the seller is willing to consider for a seller note? The exact terms the owner may consider vary based on several factors, such as the down payment, the interest rate, the amortization period, your credit history, your relevant experience, and the overall deal structure. If you would like to propose that the seller carry a note, then we recommend preparing a package of information on yourself, such as a personal financial statement, your credit report, and a C.V. or resume, along with your offer. The best way to find out what the seller is willing to consider is to submit an offer. If the seller does not agree to your initial terms, then they will counter with the exact terms they will consider. This is the best way to find out what terms a seller is willing to consider. As a general rule of thumb, most sellers are looking for at least 40% to 50% cash down at closing.

Is it necessary to send an LOI even if I submitted an IOI? Yes. The majority of IOIs do not include all of the important terms and clauses that are normally addressed in a LOI, such as confidentiality, exclusivity, due diligence, etc.

Can I use my own format for the LOI? You are welcome to ask your attorney to prepare the LOI, but we strongly discourage you from drafting your own LOI unless you have significant M&A experience. The majority of buyer-drafter LOIs we’ve seen lack important clauses and contain numerous contradictions. These errors are often so severave the LOI can’t be fixed and needs to be redrafted by an attorney.

Can I email you the purchase price I would like to propose without completing the Term Sheet? No. We need you to submit the Term Sheet because it contains an almost complete list of all the material terms you should consider when submitting an offer. The terms are just as important as the price in many circumstances, and neither can be considered in isolation. M&A Basics, specifically the distinctions between Asset and Stock Sale strategies.