The Letter of Intent (LOI) marks an important milestone in a corporate acquisition. This document demonstrates the serious interest of the negotiating parties in an M&A transaction and may be legally binding depending on how it is structured. The careful drafting of an LOI is of great importance, as it establishes the fundamental terms of the planned transaction.
As experienced certified Specialists in the field of commercial and tax law, we are thoroughly familiar with the complexity of a corporate acquisition. We apply our expertise to protect your interests and ensure that all legal requirements are met. Contact us now by email or telephone.
What is a Letter of Intent?
In the law of sale in particular, conflict situations frequently arise where, for example, one discovers that a contractual partner has made false statements, that the object of purchase does not meet expectations, or that it is defective. This raises the question of warranty, guarantee or withdrawal from the contract. Special rules also apply to merchants, in particular regarding the use of general terms and conditions (GTC), which must be regularly reviewed and optimised to maintain their validity. We always stay up to date with the current legal position and ensure that you are optimally protected.
Contents of the Letter of Intent.
There is no standardised template for a Letter of Intent, as the contents vary depending on the specific circumstances and interests of the parties. In essence, however, an LOI always contains the following elements:
- Subject matter of the acquisition: The LOI records important details about the object of the purchase. For example, in the case of an asset deal, information about real property, buildings or machinery is included.
- Purchase price and financing: The LOI generally contains information on how the purchase price is determined and any possible purchase price adjustments. Payment modalities and financing options may also be included.
- Transaction structure: A description of the intended transaction forms part of every LOI, including the type of transaction (e.g. merger, acquisition), the timeline, the scope and the material conditions. Any reservations may be recorded.
Structuring Options: “Soft” and “Hard” Letter of Intent.
As already mentioned, the Letter of Intent can be issued in either a non-binding or a binding form – i.e. as a “soft” or “hard” LOI. But what does this mean in detail?
Soft Letter of Intent.
A soft Letter of Intent is concluded without any intention to create legal obligations between the parties. It therefore does not give rise to binding obligations to carry out the transaction. A soft LOI is essentially a record of initial negotiation results and serves as a starting point for further negotiations and the drafting of a final purchase agreement.
Despite its non-binding nature, it is important to choose the wording in a soft LOI carefully, as it may influence the scope for negotiation and the relationship between the parties. A soft LOI may also refer to legally binding provisions, such as a time-limited exclusivity clause.
Contents of the Letter of Intent.
Hard Letter of Intent
A hard Letter of Intent is a legally valid preliminary agreement that establishes a legally binding obligation between buyer and seller. A hard LOI gives rise to a claim to conclude the company purchase agreement.
For legal validity to exist at all, there must be sufficient certainty and agreement on the minimum elements of the contract (essentialia negotii). In addition to the subject matter and the purchase price, these include all ancillary points considered material by both sides.
However, the requirement of certainty may be suspended if a right to determine performance is granted instead. This allows one party to permit the other, or a third party, to determine a specific point at a later stage – for example, a market price applicable at the time of purchase, or the dependence of certain content on a future balance sheet date.
Furthermore, the hard LOI may be subject to a formal requirement if the same applies to the subsequent company purchase agreement. For example, in the case of a real estate purchase, the preliminary agreement would need to be notarially authenticated, because the purchase itself must also be authenticated to be legally valid.
Application of the “Hard” LOI in Practice
Since the Letter of Intent precedes the due diligence (company valuation), the binding variant as a preliminary agreement is rarely used in practice. At this stage, much of the information that is crucial for the company acquisition is not yet available. Furthermore, the necessary consents from shareholders or the board are often still outstanding.
Once all preconditions have been fulfilled and all key information has been gathered, it is in principle possible to proceed directly to conclusion of the purchase agreement. If appropriate, a deferred performance effect may be agreed. As a result, there is rarely a need for a hard Letter of Intent.
However, a preliminary agreement may be useful in very complex disposals where agreement on all points has not yet been reached but completion of the transaction has already been confirmed. In this way, negotiating positions already achieved can be secured.
The following examples may be agreed as part of a preliminary agreement or as legally binding provisions within a soft LOI:
- Due Diligence: If, at the time of the LOI, tasks arising from a due diligence review are already known, the timeframe and scope of the due diligence may be bindingly set out in the LOI.
- Confidentiality: Confidentiality provisions are often part of an LOI. To ensure that sensitive information is protected during the negotiations, a Non-Disclosure Agreement* may be drawn up.
- Non-solicitation: Sellers often wish to protect themselves against the solicitation of key employees. However, such clauses are usually unenforceable in practice, as it is difficult to prove whether solicitation or a straightforward application has occurred.
- Break-Up Fee: To protect the exclusivity of contract negotiations, a penalty payment is agreed if negotiations are broken off within a specified period. This must be notarially authenticated to be effective.
- Exclusivity: The LOI may contain clauses stating that the target company will not review or discuss other offers during the negotiations.
* NDA: Non-Disclosure Agreement A Non-Disclosure Agreement is a confidentiality agreement between two or more parties. The main purpose of an NDA is to ensure that sensitive information exchanged during the negotiations is not disclosed or used without authorisation. By stipulating a contractual penalty, claims can be more easily enforced in the event of non-compliance. An NDA may form part of a hard LOI. However, it is advisable to conclude the NDA separately in order to avoid any formal invalidity. Furthermore, a separate NDA can exist in parallel with a soft LOI.
When is a Letter of Intent Useful?
The following examples may be agreed as part of a preliminary agreement or as legally binding provisions within a soft LOI:
- Early negotiation phase: A Letter of Intent provides a formal framework for setting out the interests of all parties, especially in early negotiation phases.
- Price framework: A key advantage of the LOI is that it establishes the fundamental parameters of the transaction, including the purchase price. This creates clarity about the financial aspects of the transaction.
- Certainty: The LOI documents the basic agreement on the intention to purchase. This creates psychological certainty and reduces uncertainty.
- Scheduling: By jointly agreeing on a timeline, it is ensured that the pace of the transaction suits all parties. The risk of failure due to delays is reduced.
Are There Legal and Financial Risks?
A soft Letter of Intent does not give rise to any legal risks with regard to the company acquisition. However, all parties must comply with exclusivity clauses, confidentiality agreements and similar arrangements set out in the LOI. A right to damages or reimbursement of costs upon termination of negotiations only arises if a corresponding break-up fee has been agreed and notarially authenticated.
A hard LOI carries similar legal obligations and financial risks to an actual purchase agreement.
Costs
The costs of a Letter of Intent are generally borne by the respective contracting parties themselves, even if no purchase agreement is concluded. The same applies to advisory costs arising from the due diligence review.
Summary and Our Role as M&A Lawyers.
The Letter of Intent is an excellent way to establish key aspects of a company acquisition without losing flexibility. In the event of later disagreements in particular, the document helps to refer back to the original basis for the arguments. It is therefore all the more important that your interests are adequately reflected in the LOI – and that is precisely what we are here for.
We know the best practices in M&A transactions and implement them to your advantage. Rely on our extensive experience with companies of all sizes. We advise buyers and sellers from the letter of intent through the NDA and specific transaction conditions to the purchase agreement.
