Be Careful with Your Letters of Intent

As a person who’s always doing other people’s tech deals, I understand and still get the adrenaline rush of closing the big deal. In the drive to close deals quickly, letters of intent can be a seemingly convenient way to get a deal closed. However, I think that it’s a path fraught with risk.

After almost 30-years of practicing law, I’m still amazed at the number of

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legal fallacies that even sophisticated business people have about doing deals and properly documenting them. A prominent fallacy is that Letters of Intent (LOI) are always nonbinding or just not important for some reason that I cannot fathom.

I suppose that the misconception arises because — well — it does say “Letter of Intent” and not “Contract” at the top of the page.

Do yourself a favor. Press the “I Believe” button on this one when I tell you that LOIs can be binding agreements — you need to take them seriously, and they need to be written by your attorney.   When you think that you have an exciting deal to close, please take a deep breath and make sure that you get the documentation right.

LOIs go by many names, such as Memorandum of Understanding, Agreement in Principle, and Term Sheet, among other things. Whatever you call them, they can bite you if you’re not properly circumspect about the things you sign.

Yes, it’s exciting when you have a big cloud computing or software as a service (SaaS) deal to sign for your enterprise.  I know that when they mention the LOI, it’s a Right Guard moment. Just understand that once you sign that LOI, you may be blurring the line between engagement and marriage.

If you never close your deal because you never could work out all the details, you may find that LOI under lots of scrutiny. LOIs can and do end up in courtrooms. The essence of the lawsuit is often plain ol’ “breach of contract.”

It really comes down to this. Nonlawyers are often under the misconception that the title of the document absolutely governs the situation.

If the language in your LOI reads like a binding contract, it’s probably a binding contract. Don’t make the mistake of thinking that just because not every detail of your deal is in the LOI that this necessarily means you would win if sued.

The starting point in drafting an LOI is to remember its purpose. Usually, parties are looking to summarize their deal as a prelude to negotiating the details. It’s usually intended to be superseded by a more formal and lengthy document.

Using a SaaS deal as an example, the LOI might talk about the basic service that the vendor will provide.  It might even talk about some of the customizations that they will do for you.  Usually, the parties don’t intend for these terms to be binding if they never sign a more formal contract that includes all the details.

However, the parties usually have terms they do expect to be binding even if they never close the deal. Some examples would include a confidentiality provision and a provision that says each party is responsible for their own attorneys’ fees and other expenses in connection with the negotiation of the deal.

If your LOI isn’t specific about whether it’s really a contract or a nonbinding summary of the state of your negotiations, you could be creating an unpredictable mess for yourself. If there’s ever a dispute about the LOI, you’re forcing a court to look at the document as a whole, accept testimony with those who participated in the LOI creation process, and then make an educated guess as to the intent of the parties.

In this situation, the fact that it says, “Letter of Intent” at the top is just a single piece of evidence that a court will use to find the parties’ intent. If everything below the title reads like a binding agreement, the court may find that you have a contract and not just the simple outline of terms to be negotiated that you thought you had.

In some ways, if your lawyer does it right, this can be simple. A well-drawn LOI has a provision that specifically states to what extent the parties intend it to be a binding agreement. A typical provision will say that the LOI in fact has provisions that the parties intend to be binding even if they never sign another document. It will then go on to specify those provisions.

Whatever you do, just remember that an LOI is a legal document, which you should have your lawyer write. If you think that you are up to the task, let me give you some perspective: As somebody who mentors young lawyers, I’ve yet to find one who fell out of law school with an innate ability to draft legal documents. It takes years of mentoring and training for a young lawyer to master the art of legal writing. I just ask, “Who mentored you?”

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One thought on “Be Careful with Your Letters of Intent

  1. Yes, Always consider Letters of Intent as contracts without most of the terms filled in. It’s amazing the reaction I get from the other party when I tell them I that. A key provision for ANY LOI’s is “What happens if we can’t reach agreement on all of the terms by DD/MM/YY”? That provision states that if we don’t reach final agreement on the contract by such and such date, my liability and cost is limited to $XX.XX. In addition, as you noted, it goes on to say that certain terms like Confidentiality & warranties survive. I would never even consider an LOI without a limited liability exit provision.

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