What is a letter of intent?
A letter of intent is a document between two businesses that outlines their commitment to enter into a formal contract with one another at a later date.
These letters of intent usually state high-level terms for the future agreement and record the discussions and negotiations that have already taken place. However, what they don’t include is a final set of contractual obligations that bind all parties.
What is the purpose of a letter of intent?
The main purpose of a letter of intent is to demonstrate that a business is committed to going ahead with a deal before dotting the i’s and crossing the final t’s with a contract.
But that’s not all. Letters of intent are commonly used to outline the basic provisions in a commercial relationship so that each party has a better understanding of the relationship, even before the final details have been ironed out.
This type of legal document gives parties an opportunity to understand what they can expect from the relationship before they enter into a formal contract and become legally bound by it.
It also gives parties the confidence that a deal is likely to go ahead, which means they can begin preparing for it ahead of time. Although, there are some risks involved with letters of intent, but we’ll explore those in a moment. First, let’s understand when a letter of intent is typically used.
When is a letter of intent used?
A letter of intent is typically used to confirm each party’s commitment in a long-term project, or a deal which takes a long time to finalize.
The reason for this is that larger projects tend to have a lot of details that need nailing before a final contract can be made and signed. This means they take a long time to get over the line.
A letter of intent is an effective way to protect each party’s interests during this time, and ensure that they are protected when it comes to the resources and effort they invest in it before a final contract is signed.
Construction deals are a great example of this. Letters of intent are often used in construction deals which can have lengthy negotiation times. Having a letter of intent in place means a company can start organizing materials or preparing sites while negotiations for the final agreement are still going on.
However, it’s important to remmeber that a letter of intent isn’t a substitute for a contract, so you should still proceed with caution when it comes to fulfilling obligations that aren’t yet agreed. Let’s explore this in a bit more detail now.
Are letters of intent legally binding?
A letter of intent is not legally binding in the same sense that a contract is. This means that if the deal falls through, then neither party can sue the other for breach of contract. This is because a valid contract never existed.
Instead, a letter of intent provides a clear description of the deal process, and the negotiations that are underway.
If parties choose to enter into a letter of intent, they still have a moral obligation to treat the other party fairly, but if they decide to cancel the letter, they have the right to do so without being punished.
It’s also worth noting that while the letter of intent may not be legally binding as a whole, certain parts of it can still carry legal significance. These are likely to be things like:
- Confidentiality (or non-disclosure) terms: if you agree to keep information confidential in a letter of intent, you’re legally bound to do this even if the final deal doesn’t go ahead
- Non-solicitation terms: this means you agree not to steal the other business’ employees
- Exclusivity terms: these usually state a period of time when neither party to the deal can talk to anyone else about doing the same deal. So if, for example, a company plans to make you their exclusive provider for a particular service and gives you a letter of intent stating that, they can’t then start talking to one of your competitors about the same deal at the same time.
However, this post is not legal advice, so it’s important to contact a lawyer or attorney if you’re unsure whether certain parts of a letter of intent are legally binding. This is because it will usually depends on the facts in each case.
Can a letter of intent be ruled a contract?
As we just mentioned, a letter of intent is not a substitute for a contract. However, if a letter of intent satisfies all of the requirements of a contract there is a chance that a court could rule it’s a legally binding contract.
To clarify, if a document that appeared to be a letter of intent had all of the components required of a contract, a court could declare it to be a contract instead. In this case, the contents of it would be legally binding, since a contract would exist.
For example, in the UK case of Diamond Build Ltd v Clapham Park Homes, a letter of intent was found to be a simple contract, as it had:
“… sufficient certainty: there is a commencement date, requirement to proceed regularly and diligently, the completion date, and overall contract sum and an undertaking to pay reasonable costs in the interim.”
All of these elements meant that the letter of intent was actually considered to be a contract, and the terms within it were legally binding. This demonstrates that how you draft a letter of intent matters hugely, and so does what it includes.
But let’s move away from contracts for a moment and dig a bit deeper into what a letter of intent looks like, and what it should include.
What should letters of intent include?
What a letter of intent should include will depend on exactly what the letter is for. However, some common components of a letter of intent include:
- A description of the deal you’re doing, any preliminary numbers or prices, things that are and aren’t negotiable, etc.
- A deadline for signing the final deal, plus any other timeframes for negotiation that you already have in place
- What both parties promise to do (i.e. their potential obligations)
- Who’s going to produce the first draft (i.e who will be the contract author?)
- Anything that the parties need to do before signing the final deal (sometimes called “pre-conditions” or “contingencies”), like due diligence.
Here’s a rough structure you could use as a jumping off point for a letter of intent (this is just a guide – make sure you get legal advice for any letters of intent you draft).
Introduce yourself briefly and say why you’re sending the letter of intent. You should also say who the parties involved are.
2. Details of the agreement
State the details of the deal or transaction, including what you want to achieve once it’s done. You should also include any prices or budgets you’ve already agreed, as well as any deadlines you have in place.
3. Obligations and pre-conditions
Say what each party needs to do to make sure negotiations can continue. So that might be things like getting finance in place, auditing equipment and assets, and so on.
This is where you include those legally binding things we mentioned above around confidentiality, exclusivity, etc.
5. This agreement isn’t binding
Include a paragraph explicitly stating that the terms in the letter of intent aren’t binding, except for the ones in the previous paragraph. This will make sure you don’t inadvertently enter into a deal before you’re ready.
Add anything else you haven’t covered above, then sign it.
If drafted well, this letter of intent should serve as a useful tool as you negotiate the smaller details of your agreement. It should also give you the certainty you need until you're ready to create a real contract.
But if you're at that stage already, read on.
Ready to create a contract?
As we described at the start of this post, letters of intent are designed to prepare parties for a formal contract later down the line. Once negotiations have concluded and all of the details have been ironed out, it's time to create this contract.
We've discussed how to draft a contract in an earlier post. But if creating and managing contracts remains a painpoint for your business, it could be time to consider contract management software.
Juro is the all-in-one contract automation platform that enables all teams to streamline the creation, execution and management of routine contracts at scale. To find out more about how Juro can enable your team, fill in the form below.