What are the most common mistakes in Letters of Intent when buying a business?

The most common mistakes in LOIs when buying a business relate mostly to missing terms, vague terms, or harmful terms that hurt the parties, particularly a buyer. As a business lawyer, I notice many people who buy business in Florida think the Letter of Intent (LOI) is merely a formality or that it’s “non-binding” nature means they can simply hash out the details later. However, the LOI sets the foundation of a business acquisition. Although the LOI is not binding, it establishes trust with with the other party, and trying to “fix” a term later could result in a breakdown of the relationship and transaction. Buyers and sellers do not like to revisit terms that were already negotiated during the LOI, and trying to do so could be fatal to the deal.

So what are the most common mistakes I see in a LOI, particularly when written without the help of qualified business lawyer:

Failing to Identify Deal Structure

There are two types of business acquisitions: asset sales and stock sales. An asset sale is when a buyer uses a separate entity to buy only the assets of a business. A stock sale is when a buyer purchases the actual stock of the target company. The two are wildly different when it comes to the purchase agreement structure, due diligence, and strategy for protecting a respective party. For example, in a stock sale, the buyer inherits the legal liability of a target company, unlike in an asset sale. For this reason, the due diligence process is very important. Trying to figure this structure later on very harmful, particularly to the buyer.

Failing to Identify Purchase Price

LOIs should have a purchase price. Some people believe that a purchase price can be determined later. However, by the time the parties have negotiated the LOI, they should have researched the financial health and value of the target company to be able to provide a purchase price. A buyer failing to provide a purchase price shows the seller that the buyer is not serious about buying the business, and a seller may decide to move on to other options. With that said, the purchase price can be re-negotiated if the buyer finds a basis for a different price during due diligence.

Poor Due Diligence Timeline

Due diligence is extremely important to a buyer because the buyer is buying the business and inheriting some level of liability, regardless of deal structure. Rushing the due diligence process means the buyer misses out being able to research the business thoroughly, such as tax matters, debts, employee statuses, and overall value of the target company.

Some sellers like to put a deadline on the due diligence timeline, however there is no rationale for setting any due diligence deadline before signing a purchase agreement. The buyer may continue to find new information during underwriting or as the buyer wades through initial disclosures. A seller may try to “enforce” a due diligence deadline agreed in a LOI, however, the buyer can simply walk away from the transaction since the buyer has not signed any binding purchase agreement if the buyer is not satisfied with the due diligence. Accordingly, rushing due diligence is not beneficial to either party.

If you are buying or selling a business Wesley Chapel or Tampa, Florida , and need assistance with your LOI, contact Motiva Business Law to get started.