Letters of intent (LOI) are routinely used after business people have reached some degree of common ground on a potential deal. Sometimes an LOI comes very early on, before the parties know whether an ultimate agreement is likely or not. In other situations, however, LOI’s are entered into only after there is agreement on all the key business terms. Even in those cases, however, deals often crater during the process of negotiating a full-blown contract. This can be the result of one side simply getting cold feet and/or otherwise changing its mind about moving forward. Further, all too often the party left at the altar can do nothing but lament the fact that it expended a lot of time and money with nothing to show for it. Here are two strategies in-house counsel might consider employing in the LOI process to limit the risk that they have to go back to their internal client and explain that even though there was a letter of intent, the other side walked away from the deal and there is nothing that can be done about it.
1. Make Your LOI a Binding Contract
The key to making an LOI a binding contract is to include in it all of the material terms of the deal. As such, and contrary to popular belief, even if an LOI says that it is subject to the execution of a “mutually acceptable” contract (or some other such similar language), that will not necessarily render it an unenforceable “agreement to agree.” Indeed, this is a lesson that several parties learned the hard way in McCarthy v. Tobin. In that case, a one-page “Offer to Purchase” a parcel of real estate for more than $500,000 was held to be a binding contract even though it expressly stated that it was “[s]ubject to a Purchase and Sale Agreement Satisfactory to Buyer and Seller,” and no such agreement ever was executed.
So, if a party feels that it could live with the deal as described in an LOI – even if all of the bells and whistles that might come with a full-blown contract are not included – in-house should consider including language to the effect of: “this Letter of Intent includes all of the materials terms of the parties’ agreement.” That way, even if the LOI also indicates that a more complete contract is contemplated, you will have a potent argument that the LOI is binding, even if that more complete contract never is executed. (But, be careful what you wish for. Successfully employing this strategy is a two-way street that will limit or eliminate your ability to back out of the deal.)
2. Incorporate a “Break-Up Fee” Clause
A “break-up fee” clause is a provision, stating that if the deal is not consummated, one party will pay the other a liquidated amount. Plainly, such a provision can deter a party from walking away from a deal, as well as provide a mechanism for recovering some or all of a party’s opportunity costs expended on a failed deal. While a break-up fee clause will only work in limited situations when a party has significant leverage, it is too important to forget. Finally, it is critical that if in-house counsel want to use a break-up fee clause, it must be drafted properly and with due care. If not, and as I have discussed in several other blog posts, such a provision could be deemed to be an unenforceable penalty clause.
While there is no foolproof way to ensure a deal happens and/or that resources are not wasted on a failed effort, considering and/or incorporating the above strategies may allow in-house counsel to hold the feet of a recalcitrant business partner to a contractual fire.