Buying a business can be quite confusing especially when it comes to agreements, contracts, and the titles that go along with them. You may have heard someone use terms like term sheet, letter of intent, offer to purchase, and purchase agreement. They all sound similar but are they? Let’s break down them each individually so that you can better understand the each and be able to make the choice that best fits your needs.
- non-binding expression of interest by a buyer
- outlines the price and structure of a transaction
- determine if the parties are in agreement on the price and structure of the transaction before both parties invest significant time and money on professional fees.
Letter of Intent (LOI)
- non-binding agreement
- outlines terms of offer in greater detail
- little or no escrow deposit
- transaction attorneys or often involved with LOI
- non-binding on either party(except binding clauses)
- little or no escrow money involved
- once due diligence is complete and Proof of Funds or Letter of Commitment from a Lender is provided to Seller the Letter of Intent becomes an exclusive agreement between Buyer and Seller
- If there is an escrow deposit on a fully non-binding Letter of Intent, the escrow deposit is 100% refundable if the Buyer cannot complete due diligence or secure financing before an Asset Purchase Agreement is drafted.
- There may be multiple open/active Letters of Intent with a Seller at any given time.
- The person that secures financing or provides Proof of Funds first will be the Buyer.
Offer To Purchase (OTP)
- binding contractual document that clearly states the Contingencies and Conditions that must be removed in order to make it a binding document.
- percentage of Purchase Price is collected as earnest money and placed in escrow because it is in the contract.
- The money is normally refundable until the contingencies or conditions are satisfied and have been removed
- These contingencies or conditions include:
- Review and approval of the financial information, ability to secure financing and a new lease, agreement on a non-compete and an acceptable training and transition period, securing any licensing plus any other contingency a buyer or seller may need.
- If the contingencies cannot be removed a Mutual Release of Escrow Funds is signed by Buyer, Seller, and Broker. Upon receipt by Escrow Company, 100% of the escrow money is refunded to you.
- Advantages Include:
- there is a contract in place; any additional purchasers come along, any offer they submit is second in position behind yours
- escrow money is refundable until all the Contingencies/Conditions to the Offer are removed
- psychologically, both parties are more committed to finalizing a transaction.
Once the deal is negotiated due diligence is completed and financing is secured. The next step is the drafting of the Definitive Purchase Agreement for the Sale and Purchase of the business. If there is real estate included in the transaction a Contract of Sale will also be drafted.
- The Asset Purchase Agreement (APA) is the final document the replaces the Letter of Intent, Offer to Purchase or Term Sheet
- Either a Commercial Escrow Company or the attorney for either buyer or seller will draft the Asset Purchase Agreement/Contract of Sale.