How to Use a Letter of Intent (LOI) to Make a Deal

What Is a Letter of Intent (LOI)?

A letter of intent (LOI) is a document declaring the preliminary commitment of one party to do business with another. The letter outlines the chief terms of a prospective deal. Commonly used in major business transactions, LOIs are similar in content to term sheets. However, LOIs are presented in letter formats, while term sheets are structured as lists.

Understanding a Letter of Intent (LOI)

LOIs are useful when two parties are initially brought together to hammer out the broad strokes of a transaction before the finer points are resolved. LOIs often include provisions stating that a deal may only go through if financing has been secured by one or both parties, or that it may be cancelled if papers are not signed by a certain date.

LOIs can be iterative in nature. One party may present an LOI, to which the other party may either counter with a tweaked version of that LOI or draft a new document altogether. Ideally, by the time both parties come together to formalize a deal, there will be no surprises on either side of the table.

Many LOIs include non-disclosure agreements (NDAs), which contractually stipulate the components of a deal both parties agree to keep confidential, and which details may be shared publicly. Many LOIs also feature no-solicitation provisions, which forbid one party from poaching the other party's employees.

A letter of intent is usually drafted and signed while negotiations between parties are ongoing so that the final terms of a deal might vary from what was agreed upon in the LOI. Due diligence is conducted by both parties before doing business. It is a prudent business practice to complete due diligence before signing an LOI.

Purpose of a Letter of Intent (LOI)

An LOI may be used by different parties for many purposes. Parties can use an LOI to outline some of the basic, fundamental terms of an agreement before they negotiate and finalize all the details. Furthermore, the LOI may be used to signal that two parties are negotiating a deal, such as a merger or joint venture (JV).

Overall, LOIs aim to achieve the following:

• Clarify which key points of a deal must be negotiated.
• Protect all parties involved in the deal.
• Announce the nature of the deal, such as a joint venture or a merger between two companies.

Applications of a Letter of Intent (LOI)

In the context of business deals, LOIs are typically drafted by a company's legal team, which outlines the details of the intended action. For example, in the merger and acquisitions (M&A) process, LOIs detail whether a firm plans to take over another company with cash or through a stock deal.

Letters of intent also have applications beyond the business world. For example, parents may use them to express the expectations they have for their children in the event both parents die. Although they aren't legal documents (like wills), LOIs may be considered by family court judges responsible for legislating what happens to the children under such circumstances.

LOIs are also used by those seeking government grants and by highly sought-after high school varsity athletes. These individuals frequently draft LOIs to declare their commitments to attend particular colleges or universities.

The Bottom Line

Letters of intent (LOIs) are used in the business world when two parties intend to work together or form a deal. The purpose of an LOI is to clarify which key points of a deal must be negotiated, protect all parties involved in the deal, and announce the nature of the deal, such as a joint venture or a merger between two companies. Sometimes LOIs are used outside the business world. They may be used by those seeking government grants or by highly sought-after high school varsity athletes.