The letter of intent is an essential step in facilitating the sale of a business. The purpose is to establish the economic framework for buyer and business seller to move to the due diligence phase. It basically says that with all the available information I have thus far seen and if that all stands the scrutiny of due diligence, I am willing to buy your business for X dollars under Y payment terms. It is however, non- binding pending the execution of mutually acceptable purchase agreements.
If I am a seller, I am going to insist that I have this letter establishing the economics of the deal before I agree to allow my company to be turned inside out with buyer staff and advisors. If, as the seller, I want $5 million and the LOI specifies $4.5 million, I am going to attempt to negotiate up before I counter sign this letter. If I am still short on price and terms, I continue to sell the company to other interested buyers.
The other important element of the LOI from the buyer's perspective is exclusivity. The buyer will lock up this company for a period of from 30 days to 90 days to complete their due diligence and execute mutually agreeable definitive purchase agreements. That means that in return for the time, effort and expense of due diligence, the seller and his business broker or merger and acquisition advisor are not allowed to actively market the business to other interested parties.
If you are the seller and you get your LOI, don't celebrate yet. Make sure the financials that the buyer is analyzing to come up with his offer are professionally done using GAAP. Normally a measuring point is established in the LOI with those financials for net working capital. There will be an adjustment made to the transaction value (post closing adjustments) depending on the new net working capital balance post close.
If the buyer is looking at sales forecasts prior to submitting his LOI, make sure they are conservative and accurate. If you have some major sales losses or the pipeline moves to the right (they always do) some buyers may attempt to call that a material adverse change and look for an adjustment in purchase price.
Finally, the LOI is normally a three to seven page document without a lot of legal boilerplate. The purchase agreements that follow will take care of that. So expect 30 pages or more. Focus your efforts on the economic parameters and conserve your legal budget. You will need your attorney most for his help with the purchase agreements.
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Until next time!
Dave Kauppi is the author of "Selling Your Software Company - an Insider's Guide to Achieving Strategic Value, editor of The Exit Strategist Newsletter, a Merger and Acquisition Advisor and President of MidMarket Capital, Inc. MMC is a private investment banking and business broker firm specializing in providing corporate finance and business intermediary services to entrepreneurs and middle market corporate clients in a variety of industries. The firm counsels clients in the areas of merger and acquisition and divestitures, achieving strategic value, deal structure and terms, competitive negotiations, and Letter of Intent Consulting. Dave is a Certified Business Intermediary (CBI), is a registered financial services advisor representative and securities agent with a Series 63 license. Dave graduated with a degree in finance from the Wharton School of Business, University of Pennsylvania. For more information or a free consultation please contact Dave Kauppi at (269)231-5772, email Dave Kauppi or visit our Web page MidMarket Capital. Click Here For Our New Book on Amazon