M&A Vocabulary – Understanding Experts: Letter of Intent (LOI)

PrintMailRate-it

In this ongoing series, a number of different M&A experts from the global offices of Rödl & Partner present an important term from the specialist language of the mergers and acquisitions world, combined with some comments on how it is used. We are not attempting to provide expert legal precision, review linguistic nuances or present an exhaustive definition, but rather to give or refresh a basic understanding of a term and provide some useful tips from our consultancy practice.

Parties to a company acquisition agreement often want to outline their visions about the content and the course of procedure already at an early stage of the planned transaction. 

In particular, because of the resources that the seller has to reserve for due diligence and later contractual negotiations, he has a fundamental interest in the potential buyer declaring his basic intention to acquire the seller’s company. 

Also for the buyer, it may be important to inform the seller in writing of the seriousness of his interest in the contemplated transaction. This is particularly the case if there are a large number of prospective buyers. For this purpose, in practice, the negotiating parties usually sign the so-called Letter of Intent (LOI). The term, which originates from Anglo-American law, should be viewed as a declaration of intent under German law, but it is not defined in greater detail by law. In most cases it is the seller who requests presenting a unilateral letter of intent from the prospective buyer, but in practice an LOI is sometimes also signed by the seller as a bilateral declaration. In this case, the term Memorandum of Understanding (MoU) is often used. 

As a mere declaration of intent, the LOI does not constitute an intention to enter into a legally binding relationship. In this respect, the LOI can also be distinguished from pactum de contrahendo (a preliminary agreement), which usually establishes a legally enforceable claim for the conclusion of the main agreement. 

Although an LOI does not establish an enforceable claim for the conclusion of the respective company acquisition agreement and is generally non-binding, individual components of the LOI can very well be declared as binding on the negotiating parties. As a result, in the event of a breach of such a binding arrangement, parties may be obligated to pay damages or even contractual penalties. This applies in particular in the case of exclusivity or confidentiality clauses. If, for example, the seller conducts parallel negotiations with other prospective buyers although he has undertaken in the LOI to conduct contractual negotiations exclusively with the specific potential buyer for a certain period of time, he may become liable to pay damages. 

An LOI that has content as above is referred to as a "soft" LOI. In practice, so-called "hard" LOIs are also possible, yet they are certainly rare. A hard LOI is signed when the parties not only want to present the mere declaration of intent but to agree in a binding manner on essential elements of the company acquisition agreement, such as the purchase price or the method of its determination. In this case, the arrangements between the parties regarding the later conclusion of the acquisition agreement are already legally binding. 

An LOI should essentially be structured in such a way that it first names the parties to the company acquisition agreement and reflects the current status of the negotiations. The description of the transaction itself should be as detailed as possible and the most important deadlines for the planned acquisition process roadmap should be indicated. In addition to exclusivity clauses and duties of confidentiality, an LOI can or should also indicate conditions for the continuation of the contractual negotiations or their termination (depending on the result of the due diligence, if applicable). 

Evidently, an LOI should be formulated with great care in order to ensure clarity, especially as regards the binding nature of individual arrangements, and to avoid misunderstandings and ultimately legal disputes from the outset.

From the Newsletter

Contact

Contact Person Picture

Stefan Sieferer

Partner

+36 1 8149 880

Send inquiry

Experts explain

 

Skip Ribbon Commands
Skip to main content
Deutschland Weltweit Search Menu