After finishing preliminary negotiations for a business transaction, whether buying or selling a business, purchasing real estate or entering into a commercial lease, parties will often execute a letter of intent that includes the material terms of the deal. Usually, letters of intent are not intended to be enforceable with regard to the underlying transaction but merely serve as a guide to aid the parties in continuing with negotiations and, ideally, closing the proposed transaction.
Before executing a letter of intent, parties should be mindful that state law varies with regard to the enforceability of a letter of intent. Depending on the applicable state law and language contained in the letter of intent, a party may find itself legally bound by a letter of intent despite (i) contrary intent at the time of execution and (ii) a reference in the letter of intent to a future agreement.
Courts may find all or part of a letter of intent enforceable (i) in regard to the underlying transaction, (ii) through the theory of promissory estoppel or (iii) as a duty to negotiate the underlying transaction in good faith. Depending on the state law governing the letter of intent, courts will consider various factors in interpreting the parties' intent in addition to the parties' conduct during negotiations. (For example, see Quake Construction, Inc. v. American Airlines, Inc., 565 N.E.2d 990 (Ill. 1990)). These factors include, but are not limited to:
(i) What is the nature of the transaction and type of agreement required? (ii) Does the letter of intent contain all of the required terms and conditions for the underlying transaction? (iii) Does the transaction involve a large or small amount of money? (iv) Does the transaction require a formal writing for the full expression of the covenants? (vi) Did the negotiations indicate that a formal written document was contemplated or required at the completion of the negotiations?
Before signing a letter of intent, each party must determine its goals for the transaction and ensure proper integration of these goals into the letter of intent. Each party should scrutinize the terms and conditions contained in the letter of intent and consult legal counsel to avoid ambiguous language, as such language often results in unintended consequences. Specifically, parties should ensure that the letter of intent contains proper language negating any binding obligation without or until the future execution of another agreement. Parties should also ensure that the letter of intent does not impose an unreasonable duty to negotiate, thereby restricting a party's ability to walk away from the deal. The duty to negotiate is a product of the terms of the letter and the transaction framework established by the parties in the letter of intent.
A letter of intent is a useful transaction tool that, when properly drafted, assists and guides the parties in completing and finalizing a transaction. However, parties to a transaction should be careful not to minimize the potential complexities of a letter of intent because, as indicated above, the judicial system does not always view a letter of intent to be as nonbinding as the parties might assume.