A letter of intent is the short document in which a buyer and seller agree the main terms of a sale before the purchase agreement is drafted: price, structure, how the price is paid, working capital, the seller's role after closing, conditions and timing. Most of it is non-binding. The clauses that usually bind are exclusivity, confidentiality, expenses and governing law. For a lender, the LOI is the first document that shows the deal, and a lender reads four things first: the price against the earnings, the seller financing, any earnout, and what the seller does after closing.
- What it is
- A summary of agreed deal terms, signed before the purchase agreement
- Usually non-binding
- Price, structure, payment terms, working capital, conditions
- Usually binding
- Exclusivity, confidentiality, expenses, governing law
- Lenders read first
- Price against earnings, seller note, earnout, seller's role
- In the lender file
- Required for every acquisition, with the target's latest full year of figures
What an LOI does
A letter of intent turns a negotiation into a deal. In a marketed sale it usually follows a looser, earlier indication of interest; in a direct deal it is often the first thing either side signs. It records the terms the parties have agreed in principle, takes the business off the market for a period, and starts the expensive work: due diligence, the purchase agreement, and the financing.
It is also the point where negotiating leverage changes hands. Before the LOI is signed, the seller can still talk to other buyers. After it, the seller has usually agreed to deal only with this buyer, and every week of exclusivity makes the seller more committed to closing. A term the buyer needs, whether a seller note on standby, a working capital peg or a transition agreement with the seller, is far easier to get into the LOI than to add later. Terms left out of the LOI are argued about in the purchase agreement, where the seller has more reason to dig in.
For the lender, the LOI is the first description of the deal it is being asked to fund. The lender's own terms, first in a term sheet and then in a commitment letter, are written against it.
The terms, and which ones bind
LOIs vary in length, but most cover the same ground. What matters is saying expressly which paragraphs bind and which do not. A loosely written letter can create obligations nobody intended, or fail to create the ones the parties thought they had.
| Term | What it covers | Usually binding? | Why the lender cares |
|---|---|---|---|
| Price | The headline price and what it is based on | No | The loan is sized on earnings, not on the price |
| Structure | Asset or stock purchase; what is included and excluded | No | Liabilities, licenses, contracts and the collateral the lender will hold |
| Consideration | Cash at closing, seller note, earnout, rollover equity | No | Each changes the equity, the debt service or what the lender will allow to be paid |
| Working capital | The peg, and whether the deal is cash-free, debt-free | No | Whether the business arrives with enough to operate |
| Seller's role | Transition, consulting or employment after closing | No | Lenders weigh how much the business depends on the seller |
| Conditions | Financing, diligence, landlord and customer consents, licenses | No | What the lender must deliver, and by when |
| Exclusivity | The seller will not negotiate with others for a set period | Yes | The window the financing has to fit into |
| Confidentiality | What the buyer may disclose, and to whom | Yes | It must allow the buyer to share the seller's figures with lenders and advisers |
| Expenses and governing law | Who pays what if the deal fails; which state's law applies | Yes | Rarely a lender issue |
The confidentiality clause deserves a second look before signing. A clause that lets the buyer share information only with its own advisers, and not with prospective lenders, forces a pause at exactly the moment the financing should start.
What a lender reads first
An acquisition lender reading an LOI is looking for the terms that decide whether the deal can be financed at all, before it spends time on anything else.
- Price against earnings. The lender sets the price beside the latest full year of earnings and asks whether the debt can be serviced from them. Conventional bank lenders commonly look for debt service coverage of at least 1.25x, and senior cash-flow lenders to lower-middle-market companies commonly lend 2x to 3.5x EBITDA. A price well beyond what those tests support needs more equity or more seller financing. See how lenders decide if the price is too high.
- Seller financing. The amount, the rate, when payments start and whether the seller will subordinate. A paid note counts in debt service; a note on full standby does not, and some lenders give it partial credit toward the buyer's equity.
- An earnout. Lenders read an earnout as deferred price that competes with the loan for cash. Most allow one if it is subordinated to the loan, and they size the loan with its possible payments in view. See earnouts and acquisition debt.
- The seller's role. A seller who stays through a transition lowers the risk that customers and staff leave with them; one who leaves at closing puts the weight on the buyer's team. Lenders want the role, its length and its pay written down.
- Rollover equity. A seller keeping a stake stays invested in the outcome and reduces the cash equity needed. Lenders read the rollover terms, including any right to be bought out later, because that can become a claim on cash.
- Working capital and real estate. Whether the business is delivered with a normal level of working capital, and whether the building is bought or leased and on what terms.
Writing an LOI a lender can finance
A buyer who knows how the deal will be financed can write that financing into the LOI. The specific points:
- State what the price is based on: which year's earnings, and whether they are adjusted. A lender will test the same figures, and a gap between the seller's number and the lender's is easier to resolve if it was visible from the start.
- Spell out the seller note: amount, rate, amortization, and whether the seller will accept full standby or subordination. Sellers who agree to be paid monthly and learn at closing that the note sits behind the bank for years are a deal at risk. See how much seller financing is typical.
- Bridge a valuation gap deliberately: an earnout, a seller note and rollover equity each land differently with a lender. Earnout vs seller note compares two of them.
- Agree how the working capital peg will be measured, even if the number comes later.
- Write a financing contingency that names the structure, not just "subject to financing".
- Decide in advance what happens if the quality of earnings work finds earnings below the figure the price was set on.
- Make exclusivity long enough for diligence and financing to finish, with a clear way to extend it.
Buyers who speak to lenders before signing write better letters. See talking to a lender before the LOI.
The LOI in the lender file
On Midas Partners's checklist, every acquisition needs two things beyond the usual financial statements: the target's latest full year of figures for every company being bought, never an older year, and the letter of intent. The LOI is what turns those figures into a financing request, because it fixes the price, the uses of proceeds and the seller's contribution.
Once the documents are in, Midas Partners builds the full lender package, financing model, lender presentation, blind teaser and underwriting memo, in a day; built by hand, the same package takes at least a week. The LOI's terms set the sources and uses and the coverage test any lender will run, so a term that will trouble a lender is better found before the file goes out. Of the 1,800+ lenders in the book, 1,148 write term and private credit; those that fit see a blind teaser first, and the client approves each by name before it learns who the client is. The steps from LOI to closing sets out what follows.
Common questions
- Is a letter of intent legally binding?
- Mostly not. The business terms, price, structure and conditions, are usually non-binding. Exclusivity, confidentiality, expenses and governing law usually are. The letter should say expressly which paragraphs bind.
- Do I need a signed LOI before approaching a lender?
- To be underwritten, yes. A lender needs the LOI to underwrite the deal, and it is on Midas Partners's acquisition checklist. Talking to lenders before signing is still worthwhile, because it shapes terms the LOI should include.
- How long should exclusivity last?
- Long enough for diligence, the purchase agreement and the financing to finish, with a way to extend it. The right length depends on the deal's complexity, whether a quality of earnings report is needed and how quickly the seller can produce documents.
- Can terms change after the LOI is signed?
- Yes, since the business terms are non-binding. Changes are common when diligence, a quality of earnings report or a lender's review finds something the price did not reflect. Changing terms without such a reason costs the buyer credibility with the seller.
- My LOI includes an earnout. Will a lender finance the deal?
- Often, yes. Lenders will want it subordinated, so earnout payments stop if the loan is in default, and they will check that paying it in a good year still leaves enough to service the loan.