The heads of terms entered into by a buyer and seller at the outset of any share or business sale or purchase will establish the fundamental building blocks for the rest of the transaction. Given that every corporate transaction will be different in terms of its nature and complexity, it is important to obtain legal advice before entering into such terms.

This article aims to consider the provisions that are usually included within the heads of terms and the key benefits of proceeding with appropriate heads of terms at the outset.

What are heads of terms?

The heads of terms, which may also be referred to as a ‘letter of intent’ or ‘memoranda of understanding’ (or not labelled at all), set out the key terms of a proposed transaction that have been agreed in principle by both parties. It functions as a precursor to the negotiation and preparation of the formal acquisition agreement.

There is no ‘one size fits all’ approach. The heads of terms could range from a basic letter to a more comprehensive document negotiated by lawyers.

What terms are usually included?

The heads of terms will usually cover the following provisions:

  1. the names of the parties to the transaction (i.e. the buyer, the seller(s), and any guarantor(s));
  2. a clear explanation of the nature of the transaction. For example, whether the entire issued share capital, or some other proportion of the share capital, will be acquired, or whether all or some of the business of a company shall be acquired;
  3. the consideration payable by the buyer to the seller and on what dates those payments are due. The consideration payable may be paid by way of cash on completion, deferred consideration, contingent consideration, the issuance of consideration shares to the sellers, the issuance of loan notes, or a combination of those above (or others);
  4. any conditions to completion of the transaction. For example, the buyer may require regulatory approval, specific consent(s) or licences to be obtained before completion can take place;
  5. timeline and steps leading up to completion;
  6. confidentiality provisions to ensure that parties maintain privacy and protect sensitive information discovered as part of the transaction;
  7. exclusivity provisions to prevent the parties involved from negotiating with third parties for a specified amount of time, creating a secure environment for the transaction; and
  8. any matters relating to how the costs of the transaction will be paid by the parties.

These are certainly not the only provisions that should be covered in the heads of terms. Each set of terms should be considered on their own merit to ensure they are suitable for the transaction being contemplated.

Are heads of terms legally binding?

Heads of terms can be legally binding, not legally binding or partially legally binding, with the latter being most common in our experience. The provisions that are most commonly legally binding relate to (i) confidentiality, (ii) exclusivity, and (iii) payment of costs.

It is therefore important to ensure that legal advice is sought before the heads of terms are entered into to ensure that those terms intended to be legally binding are clearly defined.

So, you may ask ‘what is the point in signing heads of terms if they are not legally binding’?

Key benefits of heads of terms

  • Peace of mind – the heads of terms set the scene of the transaction. It is important that all parties feel that the fundamental terms of the transaction are agreed in principle before legal and other costs are incurred;
  • Efficiency – professional advisers assisting with the heads of terms will have a better understanding of the parties’ intentions from the outset and should be well equipped to prepare the substantive documentation in accordance with the roadmap set out in the heads of terms;
  • Negotiation tactics – it is important to ensure that what is agreed in the heads of terms is an accurate reflection of your agenda. If not, your negotiating position may be weakened. For example, you may be able to resist the introduction of any new provisions, or the subsequent negotiation on key points, if not provided for in the heads of terms;
  • Stability – with the inclusion of an exclusivity period, parties can negotiate the main transaction documents knowing that both sides are locked in for a fixed period; and
  • Early identification of issues – given that parties will begin negotiating various terms of the transaction at this stage, any key issues to be dealt with as part of the transaction will potentially be uncovered.

There are, however, circumstances where heads of terms may not be beneficial or required. This may be due to time pressures to complete or where the transaction is relatively straightforward without any significant complexities. Even in those scenarios, we recommend taking legal advice to consider whether any other contracts (such as confidentiality agreements) would be advantageous to protect the interests of the business.

Conclusion

The heads of terms will play a crucial role in a share or business acquisition. In our experience, having a well-drafted and comprehensive set of heads of terms will often kickstart the transaction and ensure parties stay on track for a successful completion.

If you need assistance with preparing the heads of terms, or if you receive heads of terms for approval, we strongly recommend that you get in contact with us before signing. Our role will be to work with you to ensure the terms correspond with your expectations, to highlight any ‘red flags’ or risks, as well as propose safeguards to protect you from at the early stages of the transaction.

If you are considering buying or selling a business, or if this information is relevant to you, please do not hesitate to contact our team of experts in the Corporate and Commercial Department who would be happy to assist.