To expand on our last article on letters of intent (hereinafter referred to as the “Letter” or “Letters“) in the context of commercial transactions involving the sale of shares (https://endlex.ca/letter-of-intent-definition-and-purpose/ ), we will take a closer look at the binding nature of such Letters.
As mentioned in our previous article, the parties may indicate in the Letter that it is binding, meaning that the parties undertake to conclude the forthcoming transaction, or that it is non-binding, meaning that the Letter constitutes a document stipulating the parties’ intention to discuss the terms of the forthcoming transaction, all without any formal commitment to conclude a transaction.
We will discuss 3 key elements in relation to this concept:
1. The Buyer’s Position
The buyer generally wishes to proceed with a non-binding Letter, for several reasons. Among these is the fact that this option allows the buyer to proceed with the next steps in the transaction without committing to purchase the shares of the target company until the conclusion of a share purchase agreement that will bind the parties. This gives the buyer the option of withdrawing from the transaction at any time, usually by giving written notice of termination of the Letter to the seller.
However, certain special circumstances may favour a binding Letter, notably when the target company raises the interest of several potential buyers wishing to proceed with the transaction. In such cases, the buyer may wish to go ahead with a binding Letter to appease the seller’s apprehensions and demonstrate the seriousness of his intentions.
Naturally, each situation is unique, and there are many other mechanisms the buyer can use to protect his interests, including the exclusivity clause, which will be the subject of a future article.
2. The Seller’s Position
The seller generally wishes to obtain a binding Letter, and for reasons specific to the nature of a commercial transaction. As part of the due diligence process (which will be the subject of a series of articles in the near future), the seller discloses all relevant documents to the buyer, enabling him to review the company’s affairs. You can therefore understand that, even though confidentiality obligations generally remain binding in the case of a non-binding Letter, the seller has every interest in ensuring that the buyer, having received all his trade secrets, is bound by an obligation to proceed with the forthcoming transaction.
However, depending on the circumstances, he may want a non-binding Letter when, for example, his business is of interest to several potential buyers, thus enabling him, preferably before the start of the due diligence period, to withdraw from the initial Letter and sign another with a new buyer offering better terms.
3. Due diligence
The due diligence review is a process that generally allows the buyer, at his or her discretion, to withdraw from the forthcoming transaction if said due diligence proves to be inconclusive, whether the Letter is binding or not. Letters generally stipulate that if the due diligence reveals factors unsatisfactory to the buyer, the latter may send a notice of non-satisfaction to the seller, in which case the Letter becomes null and void without further recourse on either side.
However, we recommend a cautious approach when sending a notice of non-satisfaction. There have been instances where transactions have turned into contentious disputes when the seller has alleged that the buyer’s refusal is not related to his failure to his non-satisfaction of the due diligence review, but rather to other factors, leading to threats of legal action on the part of the seller who feels aggrieved after disclosing all his trade secrets to the buyer.
Conclusion
The strategy to adopt regarding the binding nature of a Letter depends on several factors that deserve careful consideration. Our team can help you determine the right approach to drafting a Letter to protect your interests. Don’t hesitate to contact us if you’d like to find out more!
Information provided in this article is intended as general introductory information only. The information provided in this article is not legal advice. It should not be construed as legal advice and should not be relied upon as such. Should you want legal advice regarding the information provided in this article, please contact one of our lawyers.
