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Letter of Intent, Term Sheet, Indication of Interest, and LOI are all terms for basically the same thing: a document that describes the terms of a future transaction.  Each has a different style and is more or less specific about terms, and each can be helpful to document the future transaction.

A Letter of Intent, or “LOI”, is a classic agreement between a buyer and a seller regarding a purchase.  Typically done early in negotiating a deal, it is a basic understanding of a future transaction that will form the basis of the deal documentation.  Usually styled as a letter from the Buyer to the Seller, and signed by both parties, the LOI contains certain non-binding deal terms: purchase price (which can be a formula), method of payment (cash, note, equity in Buyer or combination thereof), timing, diligence to be conducted, and ancillary terms to the deal (future employment, non-compete or exclusivity).

Following a signed LOI, the Buyer will proceed to a due diligence review of the Seller.  Without the understanding on the basic deal terms the LOI provides, there is no need to go through with the review, considering the cost of diligence to the Buyer and the risk to Seller for making their books and records and other confidential information available to a Buyer. The LOI gives both parties reassurances that a deal is likely.

The deal terms listed in the LOI are usually non-binding because the parties want some flexibility in the transaction before diligence is completed.  The Buyer may find additional liability that would depress the sale price, or may realize that the financing they thought they could get from the bank is not actually available.  Aside from the deal terms, there are a handful of terms in the LOI are usually binding on the parties.  Examples of those terms are: confidentiality of the Seller’s information, exclusivity with the Buyer (if part of the agreement), and the obligation to operate the business in the ordinary course prior to the transaction date.

Letters of Intent can be very helpful to jump start a transaction.  The parties know each is interested in working something out, and they can proceed with the additional negotiations and cost expenditures to get the terms “papered”.  There are some potential drawbacks for entering into an LOI though, mainly related to poor drafting.  Even though the terms may be non-binding, it can set back negotiations for a Seller to demand a higher purchase price or rigid future employment terms.  A poorly drafted LOI can cause the parties to lose negotiation leverage in the future, or bind them to unintended provisions.

Used in the earliest stages of a transaction, an Indication of Interest, or IOI, is similar to a letter of intent, but is executed earlier and has even fewer deal terms.  IOIs are typically expressed as a letter solely from the Buyer and provide a very general indication of the Buyer’s intent to enter into a deal.  They may include only a vague range of purchase prices, but get the Buyer “in the door” to receive information on the Seller, including a Confidential Information Memorandum or “CIM”.  While not always used, an IOI is sometimes requested just to narrow the number of potential buyers in a deal.  Alternatively, an unsolicited Buyer may send one to an identified target.  The Board of Directors at the target may have an obligation to investigate the possibility of selling the Company to the Buyer, which could set off some auction process to find a high price for the shareholders.

Term Sheets are very similar to LOIs in terms of timing and the specificity of deal terms, but they look very different.  Term Sheets are not done in letter form, but primarily a chart of actual deal terms.  They may include language to be used in the final agreements, and they may be signed by both parties or not.  Term sheets are seen in M&A transactions involving the purchase of an entire company and also in other types of transactions, including stock issuances and financings.

Any document that can adequately describe the intent of the parties to enter into a transaction can be helpful to both sides to propel the negotiation of a transaction forward.  It gives the parties the ability to plan and expend resources based upon that information.  However, if these documents are prepared poorly, taking a position that does not represent intent can be detrimental to moving forward with that other party.