Why an LOI is Important Before An APA in a Business Sale

by Dave Driscoll

Buying or selling a business can be an exciting, unsettling, and exhausting process. Once a vetted buyer and willing seller have established a mutual interest in transitioning the business, two documents - the Letter of Intent (LOI) and Asset Purchase Agreement (APA) – come into play.

The scenario…facilitated by a business broker, a prospective buyer has been exploring a business for sale, and has been introduced to the seller. The conversation has reached a point where the buyer wants to begin substantive discussion about purchasing the business.

As the dialog proceeds, the buyer and seller will discuss various aspects of what a transaction may look like, including confidentiality expectations, when a buyer would be permitted to talk to key employees and customers, and how much training the seller would provide the buyer to properly transition the business. A buyer may request for the seller to finance a portion of the selling price in a Seller Note to be repaid over a defined time at a specified interest rate, or other financial considerations.

A Letter of Intent (LOI) summarizes these relevant discussions in writing. In Metro Business Advisors’ process, the finalized LOI represents the “essence of the deal,” the original roadmap created through agreement between the buyer and the seller.

The buyer submits the initial LOI to the seller through the business broker. In many cases, the broker assists the buyer in creating the LOI by providing templates that can be customized to fit each deal. The LOI is submitted to the seller detailing all the terms previously discussed, including the price and terms the buyer is offering the seller.

The LOI document is then negotiated between the parties. The final product is a document agreed to by the buyer and seller outlining their vision of the deal -the essence of the completed transaction, including agreed upon contingencies and timelines.

Most of the terms within the LOI are non-binding to the buyer and the seller. There may, however, be a few key terms such as confidentiality that are identified as binding between the parties.

After the LOI is signed by all parties, the due diligence period begins. During this defined timeline, all the conditions/contingencies in the LOI are fulfilled by either buyer or seller, including access to additional internal data. If it is determined that there was any misrepresentation, either party can walk away from the deal during this time.

When the terms of the LOI and due diligence are satisfied, the Asset Purchase Agreement (APA) is created to convey the assets of the seller to the buyer. The APA details all commitments and agreements between the buyer and the seller that originated in the LOI, with elaboration gained during due diligence, transferred into a legally-binding document.

Each party should choose a transaction attorney to assist in negotiating the final document. The buyer’s counsel is generally responsible for the creation of this document. The buyer and their team draft their intentions into an APA, which is submitted to the seller’s counsel for presentation and explanation to the seller.

This is frequently where stress enters the transaction! The seller may not like some terms, the buyer may not agree with the seller’s response, positions will be taken, and egos will come into play. This is a critical point in the process. This is where the broker, who has been involved from the beginning, can have influence in keeping/bringing the parties together and getting the deal done.
If there is conflict at this stage of the deal, the time invested at the LOI stage becomes very important. When the parties are in opposite corners due to unvoiced fears or concerns, the LOI helps all members of the process (buyer, seller, their respective advisors) refocus on the intent of the parties. The APA is typically signed at closing and includes binding terms that define the transaction and transition.

Although an LOI is not legally binding, it is an important element to guide the binding APA and a mutually-successful transaction.

Dave Driscoll is president of Metro Business Advisors, a business brokerage, valuation and exit planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at DDriscoll@MetroBusinessAdvisors.com or 314-303-5600. For more information, visit www.MetroBusinessAdvisors.com.