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Legal Tips and Tricks: Deal Negotiations Using an LOI/MOU

Often, companies will try to secure a Letter of Intent or Memorandum of Understanding (“LOI/MOU”; the two expressions are used interchangeably) from a potential contracting counterparty, for the purpose of outlining the high-level terms of a contractual relationship and to help demonstrate the viability of a project. An LOI/MOU can be used for many purposes, including outlining broad terms of an asset purchase or acquisition agreement.

 

Such high-level outlining is helpful in many circumstances:

1. When securing financing:  it is useful to demonstrate to potential financiers your potential for orders.  Programs like Kickstarter are ideal for that purpose, as, not only are you able to demonstrate orders, paying customers are waiting to receive the finished product.  Use an LOI/MOU to build an order pipeline.

2.  When entering into merger/acquisition discussions:  to set the terms of the future agreement in advance before opening the financial and legal books and records of the company – so that, at a high level, the merger/acquisition value and terms are negotiated in advance.

After the LOI/MOU is settled and the formal agreement is being entered into, certain closing conditions are usually set out, including the statement that nothing has adversely affected the business in a material way since the time of the initial deal negotiation (this is referred to as a “MAC” or Material Adverse Clause).  This is important, to ensure that you are getting what you paid for.

 

3.  When developing the framework for any future agreement: an LOI/MOU can set “guiding principles”, to further the negotiations and discussion to ensure that the parties agree with the spirit of the proposed agreement.

 

Binding vs. Non-Binding Nature of the LOI/MOU

An LOI/MOU is often structured as an “agreement to agree” and not binding.  However, it is useful to include certain binding provisions.  Some consideration must be given to make the LOI/MOU binding, and perhaps this is the opportunity to explore a future business relationship, or something more tangible, such as $500 in cash.

Typically, the binding provisions to include in an LOI/MOU are:

  • Confidentiality: of the deal negotiations, and of information shared between the parties.
  • No-shop“: an agreement not to shop the proposed deal around to other suitors, which adversely affects the party that is disbursing, oftentimes, significant resources into legal and financial due diligence.
  • A “break-fee“: a dollar value penalty, often used to cover legal fees, in the event that a deal – usually an M&A deal – fails for any reason.
  • Termination date: this is useful to prevent the other party from taking the potential deal off the table from other buyers indefinitely.  A “time is of the essence clause” is good to include as well, for this reason.
  • Dispute Resolution provisions:  To plan for the worst, a good dispute resolution process sets out the forum (location) and rules for litigating/arbitrating the LOI/MOU.
  • Duty of good faith:  This places a general duty on the other party to ensure that they are not wasting your time and money through the exploratory process, which is useful to establish if you are forced to go to court to make a claim for expenditures wasted trying to close a potential transaction.
  • Costs:  It’s important to specify who is paying the legal bill up front, especially if you are concerned that the other party is going to try to charge you for it.  A limitation of liability clause is also good to include for this reason.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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Is there a duty of good faith bargaining in the context of an RFP?

Duty to Bargain in Good Faith:

It is well established that there is NO duty to bargain in good faith unless:

(a) a duty expressly arises through contract; or (b) in the commercial tendering process under which there is a requirement for fair dealing with respect to the consideration of all bids (termed Contract A/Contract B under which the tendering process is called Contract  and the actual agreement entered into between the successful bidder and the party seeking the bids is called Contract B)

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In Oz Optics Ltd. v. Timbercon, Inc. (2011, Ont CA), the judge concluded that there was no obligation on the part of defendant to treat the plaintiff fairly in the tendering of the bids because there was no actual contract governing their relationship (ie. the Contract A/Contract B model did not apply).

Background In this case, the plaintiff (Oz) was a manufacturer of attenuators. Initially, Oz manufactured ten manual attenuators, which were delivered to and paid for by the defendant (Timbercon). After this delivery, Timbercon sent Oz a purchase order for 500 more manual attenuators with a consignment agreement. Oz did not sign the purchase order or the consignment agreement, but fulfilled the order by sending out the required number of attenuaters.

The plaintiff did not sign the purchase order or the consignment agreement, but nonetheless fulfilled the order requested by the defendant.

Since the plaintiff did not expressly object to the consignment order and sent the product to the defendant, the judge found that he agreed to the terms of the order. Since it was found that the order was on consignment, the defendant was not required to pay for any products that were not purchased from him by his client.

Apart from the consignment issue, Timbercon also entered into discussions with the Oz to have automated attenuators incorporated into a product that was to be sold to Lockheed Martin. Although Timbercon told Oz on numerous occasions that Oz was the sole bidder to supply the attenuators, Timbercon was also in discussions with another attenuator manufacturer.

Ultimately, Timbercon presented both attenuator options to Lockheed Martin, and Lockheed selected Oz’s competitor for the project. Oz alleges that Timbercon had misrepresented the lack of other bidders, and had breached a duty of good faith towards Oz.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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Legal Tips and Tricks: A Term Sheet Should Start with a Blank Page

When entering into an important contract, take the time to discuss with your business partners, advisors and legal counsel, to make sure that you are clear about your opportunities and risks.  In this article, we describe four simple steps to follow to make sure that your interests are protected when drafting a term sheet.

The best way to commence drafting a contract is similar to the best way to build a presentation slide deck or to design a website wire frame – start from scratch.  This is to ensure that you are not constrained or swayed by the language of a prior contract.  Start with a blank canvas, and start writing out the concepts that you want to include.

Step 1:  The first element to think about is the opportunity i.e.

what you stand to gain.  Make sure that you clearly understand and have communicated what you desire.

This can be very simple (such as a cash payment), or can be more subtle (for example, receiving the rights to publish the logo of your counterparty on your website, access to an advisor’s business network, etc.).  You may desire that the rewards be provided to you all at once, or that they are time-delayed.  Once you have jotted down everything you stand to gain by entering into the opportunity, you can start determining the qualities of those rewards.

Step 2:  Make a list of your risks (or how could the deal go wrong), i.e. what could happen that could result in being sued, losing your cash compensation, or public embarrassment (not ideal for an individual or a company).  Your legal counsel can assist you to determine what steps you need to mitigate these possibilities (e.g. requirement for insurance, cash up front, ease of termination of contract, and so on).

Step 3:  Once you have completed your list of interests and risks, it is time to think about your counterparty’s interests and your counterparty’s risks.  Making sure that your interests are protected and predicting the setbacks that might occur are two of the goals of a well drafted contract.  A savvy (and speedy) negotiator will also try to anticipate the interests and risks to your counterparty, and to address those in the basic terms.

Step 4:  After completing the prior steps, you will have the basic negotiating points of your agreement and can supplement with discussions with your business partners, advisors, colleagues in the same industry, and your legal counsel.  The benefit of the additional experience and awareness of external factors (legal, operational, negotiating tactics or other issues) will add another layer of insight and protection.

To be diligent, I further recommend that you repeat steps 1 and 2, each time you commence contract negotiations and even at the time of renewal, to ensure that you have captured the elements of the contract that are important to you.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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