It is one of the most important agreements the seller will sign. Although LOI’s resemble written contracts, they are usually not binding on the parties in their entirety. Many LOI’s, however, contain provisions that are binding, such as non-disclosure agreements, covenants to negotiate in good faith, or "stand-still" or "no-shop" provisions promising exclusive rights to negotiate to the potential buyer. The LOI is the entry point to the due diligence phase, where the buyer examines in varying degrees of detail, important trade secrets of the company.

These may include customer lists, contracts, employee details, supplier agreements, etc. Because this information is so important, and in many cases, critical to your business, the LOI serves to let only the right buyers through the door. Following successful completion of the due diligence phase, the LOI is replaced by the final purchase and sale agreement.

Be specific
The letter of intent should state the material terms of the transaction with enough clarity and detail to avoid a misunderstanding which could delay, increase the cost of, or even jeopardize the transaction. For example, if the buyer expects a certain level of working capital to be left in the company and the seller expects to leave a lesser amount of working capital in the company, depending on the difference, a potentially unresolvable difference can develop, preventing consummation of the deal.

Structure of your deal
Not all business sales are created equal. Fundamentally, there are two ways to sell your company: you can sell shares, or you can sell assets. In a share sale, a buyer would normally purchase all of the outstanding shares of the company. If this occurs, they will normally assume all liabilities, excluding intercompany accounts and bank debt. However, if the assets are sold instead of stock, the presumption is that the seller will maintain all of the liabilities, even those associated with the sold assets.

Another structuring consideration is the tax impact of a sale of your business. CRA is waiting in the wings, of course, with their hands outstretched. A stock sale for qualifying shares of a Canadian controlled private corporation has the benefit of a $750,000 capital gains exemption, whereas an asset sale does not have such an exemption. If the LOI does not say what the structure of the deal is, and the seller assumes it is a stock transaction, and the buyer does not, this will materially affect the after tax proceeds on the sale.  Is the price conditional on accounts continuing for a period after closing?

If the buyer requires a guarantee of accounts, the seller should fully understand the terms and conditions of this guarantee. Some items that should be included are:

• What is the time period?
• What is the multiple used to deduct for the accounts lost?
• Will the seller get credit for any accounts brought in during the guarantee period?
• How will the credit be calculated?
• Can the credit exceed the loss, thus allowing for a price increase?

It is important for the seller to determine:

• How will the company be managed during the guarantee period?
• Which employees will be retained?
• Will the owner be retained for a period of time?
• Will the seller be protected if customers leave due to a price increase, or poor service by the buyer?