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What is a letter of intent and why is it important?

Whether you’re buying or selling a business, chances are that you want to spend the least amount of money possible on legal fees while ensuring that you have the most protection. As such, the first document to be cut out of most privately brokered deals is a letter of intent. The parties who are buying or selling their business often feel that they have already established a clear understanding between themselves and the other party with respect to the key factors of the sale. Therefore, both parties are typically eager to simply move forward with a contract of purchase and sale. Unfortunately, in reality what a purchaser may believe he or she is buying may vary quite significantly from what the seller believes to be selling. Some common misunderstandings often include items such as accounts receivables and existing assets. As the purchaser, you think you are buying the business with all of its assets, including its accounts receivables for the agreed-upon price; the seller on the other hand, is of the opinion that an adjustment will be made to the final purchase price for the outstanding accounts receivable. Depending on the nature of the business being bought or sold, the value of the accounts receivable at the time of sale can be fairly substantial. Thus, determining early on who will be entitled to this pot of cash can be extremely important.

In most cases, a letter of intent or memorandum of understanding is a binding legal document that sets out the key factors agreed upon between the purchaser and the seller. It acts as a form of binding instructions for the seller and purchaser’s lawyer to follow when drafting the final agreement of purchase and sale and negotiating on their client’s behalf. Moreover, it allows the purchaser and seller to quickly determine if they are on the same page or if any material differences exist in their understanding of the transaction. If there are any key differences, it is in the interest of both parties to sort out these differences in advance so as to avoid unnecessary delays once the deal is underway and to reduce the risk of one party walking away from the deal after seller and/or purchaser has already expended a significant amount of time and energy towards completing the transaction. If both parties are on the same page and there are no differences, than the letter of intent simply serves as a form of instructions to both the seller and purchaser’s lawyers when drafting the final documents. In most cases this will limit the need for additional back-and-forth between the lawyers when drafting the final documents and will give both parties peace of mind that the key elements of their transaction have been negotiated.

The material contained in this article/video/blog is for your general information only and is not intended to be, nor should it be taken as legal advice.

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