A letter of intent (LOI), expression of interest (EOI) or term sheet is typically the first substantive document in the life of a transaction (noting that, oftentimes, parties will sign a nondisclosure agreement prior to entering into an LOI or EOI; however, confidentiality terms can also be included in the LOI or EOI itself). While the LOI does not contain certain provisions that are critical to a deal and managing risk, such as representations and warranties and sometimes indemnification provisions, it brings the parties to the negotiating table and ideally memorializes the core understandings as to what “the deal is” and the timeline for completing the transaction.
However, some parties, whether through a desire to reduce costs or conserve time, dismiss the LOI or EOI as an unnecessary, ministerial step. While it is true that an EOI is not necessary or appropriate for every transaction, if the deal is financially material to the parties, then utilizing an LOI is likely worthwhile to ensure parties are on the same page before committing significant time and resources in conducting due diligence, drafting detailed transaction documents, etc.
While most are familiar with the core terms of a LOI, such as purchase price, transaction structure and desired closing timelines, the following is a set of additional, more detailed terms that may warrant consideration in an LOI.
Binding or Nonbinding Nature of LOI or EOI
It is paramount for the parties to clearly establish whether the LOI or EOI is binding or nonbinding as to the understandings included therein. In a binding LOI, generally the parties agree that they will proceed with the negotiated transaction, barring a failure of specific conditions necessary to consummate the deal, which are most often included in the definitive agreements. Conversely, a nonbinding LOI or EOI sets forth the general terms of the transaction but specifies that the parties are not obligated to proceed with the deal until they expressly agree to do so via a future written agreement. Typically, nonbinding LOIs or EOIs contemplate a specific due diligence period in which the parties exchange information deemed necessary to further evaluate the merits of the deal and whether the transaction is viable or sensible.
In health care transactions, a buyer may be reluctant to agree to a deal without a thorough analysis of the seller’s payor mix and any impacts of changes in reimbursement rates if the buyer will not assume the seller’s payor contracts and reimbursement will occur under the buyer’s present rate structure. Further, in jurisdictions that have cumbersome transaction review processes, such as Certificate of Need approval (for example, see the various requirements for Certificate of Need in New Jersey), parties will not be able to commit to a transaction until they confirm whether applicable regulators are inclined to approve the deal.
Consideration Structure and Related Contingencies
Including the purchase price for a transaction in a LOI is, on its face, simple enough. However, if the consideration to be paid at closing is more complex than payment in full, in cash, then the parties should memorialize the terms in the LOI to avoid protracted negotiations in preparing the “definitive agreements.” For instance, the types of consideration should be expressly stated (e.g. cash at closing, any post-closing or deferred/conditional payment obligations, equity or “rollover” consideration or any other type of payment). Moreover, especially if drafting on behalf of a purchaser that will finance the purchase through a commercial loan, the LOI should contain an express condition that the transaction is contingent upon the purchaser obtaining financing upon terms and at an interest rate acceptable to the purchaser.
Lockup or “No Shop” Provisions
In light of the substantial time and expense devoted to analyzing and negotiating a potential transaction, the LOI should include a specific clause, typically referred to as a “lockup” or “no shop” provision, that restricts the parties’ ability to negotiate a similar transaction concerning the same subject matter of the deal set forth in the LOI with another party. Lockup provisions are critical to purchasers, as a purchaser’s investment in exploring a transaction with the seller can be damaged if the other party begins to “shop” the deal to other prospective buyers to obtain more favorable consideration or improve negotiating leverage with the initial purchaser. Similarly, a seller negotiating an EOI should specifically negotiate limits on the duration of lockup clauses to avoid unnecessarily limiting the seller’s ability to find an alternative purchaser if a transaction fails to materialize.
Personnel (and Personal) Considerations
If certain personnel are critical to the business that is the focus of the transaction, an EOI should provide that the consummation of the transaction is conditioned upon key personnel agreeing to remain employed within the enterprise for a certain period of time after closing. For example, in the context of a health care practice acquisition, the purchaser would want to confirm that a sufficient number of providers would continue in their respective roles after closing to ensure uninterrupted operations. Similarly, for deals in jurisdictions in which there are specific protections for employees in the context of health care transactions, such as New Jersey, the LOI may contain general language that confirms that the parties will engage in cooperative efforts to comply with such requirements.
Further, as discussed in a previous Health Law Observer blog, these considerations are only compounded when the selling principals are also critical to the viability of the business. As noted in that blog, if a “practitioner-seller is ready to retire after completing the sale, the seller needs to be comfortable with the terms of the post-sale employment agreement or consulting agreement entered into with the purchaser – a customary part of a proposed deal.” Conversely, if the practitioner-seller is not in a position to retire or pursue other endeavors after closing, then the practitioner-seller must specifically negotiate subsequent employment with the purchaser (if at all) on terms that provide a level of comfort (both financially and with regards to the duration of time) necessary to move forward with the deal. For instance, a practitioner-seller accustomed to having autonomy over required hours or production expectations may struggle to accept otherwise common terms of employment for medical providers. In either case, these material terms should be clearly set forth in the LOI or EOI to avoid any last-minute confusion or misunderstandings.
While the points discussed in this blog will not necessarily be applicable to all transactions involving a LOI or EOI, nor are they exhaustive as to all items that can be addressed in a LOI or EOI, they are involved in nearly all transactions and should be considered for inclusion in any initial, written understandings between the parties to a deal.
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