The first step in negotiating the purchase and sale of a business or its assets is to execute a letter of intent. The letter of intent stipulates the “big picture” terms of the agreement. These terms include naming all parties to the agreement, defining the assets being purchased, and the purchase price. The “big picture” terms of the letter of intent are non-binding. Parties are not required to close the deal with the same “big picture” terms as those contained in the letter of intent.
However, there are almost always some binding provisions within a letter of intent. Specifically, most letters of intent contain exclusivity and non-disclosure provisions stipulating that the parties cannot negotiate with third parties nor disclose the existence of discussions with respect to the transaction.
Parties to the letter of intent may breach these binding provisions. Upon breach of a binding provision, damages must be calculated, including the specific types of damages to which the harmed party is entitled. This issue was discussed recently in a decision out of a district court in Tennessee, PSC Metals, Inc. v. Southern Recycling, LLC, 371 F.Supp.3d 443 (D. Tenn. 2019).
In the PSC Metals case, PSC Metals, Inc. (“PSC”) entered into a non-binding letter of intent for the sale of certain assets and business operations owned by Southern Recycling, LLC (“Southern”). The letter of intent contained a binding exclusivity provision granting PSC exclusive negotiating rights with Southern. Despite the exclusivity provision, Southern entered negotiations with a third party, Ferrous Processing and Trading (“FPT”). PSC learned of these negotiations and filed suit for breach of the letter of intent.
The court discussed the issue of the type of damages to which PSC was entitled as a result of Southern’s breach: expectancy damages, reliance damages, or both. Ultimately, the court determined PSC was entitled to only reliance damages. The court permitted the recovery of damages that are the normal and foreseeable result of a breach of contract. In particular, the court held that the parties could not have contemplated that breach would expose them to full expectancy damages for a deal that did not exist in any enforceable form (i.e. only in the form of a letter of intent). As such, expectancy damages were not foreseeable, and PSC was only entitled to reliance damages.
When parties enter into letters of intent to kickstart the negotiations for the purchase and sale of a business or its assets, there is a certain amount of comfort knowing that the letter of intent is non-binding. However, as we see in PSC Metals, parties can still breach a letter of intent and expose themselves to liability. It is therefore vital to tread carefully, even if your agreement is “non-binding.”
If you are looking for more information on how you can sell or purchase a business, the lawyers at Beresford Booth have an extensive history in counseling individuals through to successful closing. We remain available to assist you in your business endeavors.