Review basics for M&A letters of intent

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Early in an M&A transaction, the parties typically sign a letter of intent (LOI), memorandum of understanding (MOU), or term sheet before starting due diligence and definitive negotiations. Because an LOI is not the final agreement, deal teams are often tempted to treat it as a routine formality. However, how the document is drafted can determine who steers the negotiations, how broadly diligence extends, and what core terms carry over into the definitive contract.

What an LOI actually does

An LOI outlines the deal structure, indicative purchase price, exclusivity terms, and key conditions for executing a definitive agreement. In Japanese transactional practice, the title alone, whether styled as an LOI, MOU, or basic agreement, does not determine legal effect. Most LOIs combine binding and non-binding provisions: valuation, deal structure, and the obligation to execute a final contract are usually non-binding, whereas confidentiality, exclusivity, expense allocation, and governing law are typically binding. If drafting is loose, the seller may assume that terms remain open to renegotiation while the buyer acts as if valuation has been fixed. Parties should review an LOI as the framework that sets the rails for all subsequent talks.

Exclusivity periods and pricing formulations

Exclusivity is often the most consequential operational clause in an LOI. It safeguards the buyer's investment in due diligence and outside advisors, but an overly long exclusivity period or an excessively broad restriction can tie the seller's hands and block competing opportunities. How price is worded requires equal care. Setting a fixed valuation, stating that price remains subject to diligence findings, or incorporating balance sheet adjustments for net cash and normalized working capital each leave distinct negotiation room. For startups and growth companies, recent financial metrics or the continued involvement of key founders can shift valuation significantly. Locking in an inflexible pricing structure in the LOI makes it much harder to adjust expectations once diligence uncovers operational or legal issues.

Defining due diligence scope and legal effect

Buyers naturally seek comprehensive access across legal, financial, tax, and labor diligence. Sellers, by contrast, need clear boundaries around information disclosure, virtual data-room permissions, and direct communications with staff or key customers. Leaving access terms undefined frequently triggers disputes once diligence begins. The same precision must apply to legal enforceability: ambiguous drafting can cause non-binding expressions of interest to be construed as binding commitments. Conditions precedent to signing the definitive agreement, such as satisfactory due diligence results, board and shareholder approvals, third-party consents, and key-person retention, should be drafted clearly, alongside rules stating how transaction costs are borne if talks break down.

Balancing risks across buyer and seller

For the buyer, the principal risk is committing resources under exclusivity and relying on pricing assumptions without sufficient access, only to discover substantial liabilities just before signing. For the seller, exclusivity itself constitutes the main risk: it freezes out other prospective buyers for an extended period, which can prove costly if the buyer conducts diligence slowly or faces internal approval hurdles. Maintaining strict confidentiality and data-room protocols protects both sides if negotiations terminate. A recurring mistake is treating an LOI as devoid of legal consequence; failing to clearly delineate binding obligations from non-binding terms can lead to disagreements over legal effect.