Learn how to create a solid letter of intent

Accounting and Tax Firm Acquisition: Creating a Solid Letter of Intent

The acquisition process generally starts by identifying a target. Conversations and negotiations result in a general deal structure agreed upon by both the buyer and the seller.

Once you have reached a mutual understanding with the seller, it’s a good idea to document your discussions to avoid potential misunderstandings. This documentation is known as a letter of intent, and can be done in the form of a simple letter or short email. This communication is helpful to the attorney who is preparing the purchase agreement, as well as to your lender if you’re seeking financing for the transaction. Keep it simple, but include the main elements of the transaction on which both parties agree. A straightforward letter or even a short email with bullet points can alleviate ambiguities that may arise in the middle of closing the transaction.

Below are some key points to include in a letter of intent:

  • Purchase amount: It’s important to outline the purchase amount–or the total purchase price–in your letter. It’s best to state the purchase amount in actual dollars, rather than as a calculation such as “two times revenue.” You’ve discussed it previously, so include the total price in writing in your letter of intent to make sure it’s clear to all involved parties.
  • Brief description of the firm and/or any carve outs: What are you agreeing to purchase? A sample phrase to include in your letter of intent could read something like, “including all new and continued business.” A carve out example would occur if a specific client is not included in the deal. This is particularly helpful if the seller will stay on as an employee post-closing, as both parties will need clarity on ownership of the book.
  • Transaction structure: Will you be purchasing the stock (the actual legal entity) or assets (book of business) of the practice? Tax implications vary widely in a stock deal versus in an asset deal, so make sure that both you and the seller are clear on the terms, and that these terms are clearly outlined in your letter.
  • Working capital: Generally, if the transaction will be categorized as an asset deal, the buyer is expected to provide working capital (cash) to meet expenses until those first billable payments roll in post-closing. Be clear about who receives that first month after close in your letter of intent. In most cases, it will be the seller if they did the work pre-closing. In a stock deal, be sure to identify how much cash will be left in the company at closing. Typically, a seller will clean out excess cash before closing in a stock deal. It is customary for the buyer to request that 30 to 60 days of working capital remain in the company. This capital would be requested to cover payroll, rent and other expenses before the new billings arrive. All of these terms are negotiable, of course, but it’s important to address all of them in the letter of intent to ensure there are no surprises at the closing table.
  • Terms of payment: The letter should outline how much cash you will bring at close, as well as any seller financing and terms. If there are any post-closing or contingent adjustments to the purchase price, they need to be clearly defined in this portion of the letter of intent.
  • Specific unique elements: This is the space in your document to outline any issues that are agreed upon, but are not covered elsewhere in the letter. This can include things such as seller transition period and related duties, continuing lease of office space and retaining certain employees for a specific period of time.
  • Qualifiers: This paragraph in the letter of intent should include any contingencies or items that will be finalized prior to close. Common qualifiers include things like: The purchase is subject to financing; Purchase price must be verified as a multiple of revenues for the trailing 12 months; Etc.
  • Due diligence and no-shop provision: State the timeline for the seller to provide documents and the buyer to complete review. A statement like this might read, “Buyer agrees to complete due diligence by specified date,” and/or, “Seller agrees to cooperate fully by providing information requested.” It’s also a good idea to agree that the seller will not “shop the deal.” A clause like this might read, “Seller agrees to work solely with buyer and entertain no other offers until agreed upon date.” This is a good practice to ensure you are covering this risk.
  • Timeline: In the letter, determine specific target dates of closing the transaction. This can help move the process along in a timely manner. You can also decide that the transaction timeline may be extended if it is mutually agreed upon.

By considering and covering each of the points listed above, you should have a solid letter of intent that will alleviate any ambiguity and make for a smoother transaction.

When you are ready for financing, contact our Accounting and Tax lending team for assistance.

Shannon Hay, Senior Loan Officer, can be reached via phone at 910.550.1403 or by email at shannon.hay@liveoak.bank.

 

 

This post is for informational purposes only and not for the purpose of providing legal advice.