A letter of intent should be evaluated as an economic package, not a headline price.
A letter of intent should be evaluated as an economic package, not a headline price. Cash at closing, debt, working capital, inventory, seller financing, earnouts, escrows, rollover equity, exclusivity, financing conditions, diligence conditions, employment, real estate, and purchase-price allocation can materially change value and closing certainty.
What to know before using the headline number
- An LOI headline price is not seller proceeds. Cash, assumed debt, working-capital delivery, escrow, holdback, earnout, seller note, transaction costs, and taxes must be bridged separately.
- Terms described as customary are not defined economics. The LOI should state the basis for enterprise value, cash and debt treatment, working-capital concept, included assets, and major contingent consideration mechanics.
- A higher offer can be worse when it relies on uncertain earnouts, weak seller paper, broad setoff, financing outs, or a long exclusivity period with few buyer milestones.
- Every condition that permits the buyer to re-underwrite price should have objective scope, information requirements, timing, and consequences.
- Tax allocation, legal structure, transition duties, employment, restrictive covenants, real estate, and indemnity can materially change the owner outcome even when price is unchanged.
Translate the offer into a sources-and-uses schedule
Identify cash from the buyer, senior debt, seller note, rollover equity, earnout, assumed liabilities, and other consideration. Then show debt payoff, working-capital adjustment, transaction expenses, taxes, escrows, retained assets, and cash delivered to the seller. Do not wait for the purchase agreement to discover that enterprise value is not proceeds.
State whether inventory is included, priced separately, or part of working capital. Identify the treatment of cash, receivables, payables, customer deposits, deferred revenue, real estate, vehicles, and excess assets. Ambiguity at the LOI stage usually favors later renegotiation.
Examine contingent and deferred consideration
For a seller note, review payment schedule, interest, maturity, subordination, collateral, covenants, and default rights. For an earnout, define the metric, accounting policies, period, control rights, permitted business changes, dispute process, acceleration, and information access. For rollover equity, understand the security, governance, dilution, liquidity, and future capital requirements.
Model downside, base, and upside outcomes. Nominal consideration that depends on performance or future liquidity is not equivalent to cash at closing.
Read every condition that can reopen price
Financing, satisfactory diligence, quality-of-earnings findings, customer retention, employee retention, landlord consent, license transfer, regulatory approval, and documentation conditions can affect certainty. Ask which conditions are objective, which are within the buyer's discretion, and when each expires.
The LOI may use a multiple while allowing adjustments to the earnings base after diligence. Record the agreed definition and illustrative bridge. Otherwise, an apparent agreement on multiple can conceal disagreement about EBITDA or SDE.
Value exclusivity and process rights
Exclusivity can prevent the seller from engaging other buyers while the selected buyer completes diligence and financing. Review duration, automatic extensions, milestones, termination, expense reimbursement, and permitted communications. A long unrestricted period can reduce leverage.
Confidentiality, access, employee contact, customer contact, public announcements, and data use should also be controlled. A nonbinding LOI can still contain binding provisions with meaningful consequences.
Coordinate tax, legal, and transition terms
Asset versus equity structure, purchase-price allocation, noncompete, consulting, employment, real estate, and contingent payments can change tax and risk. The LOI should preserve enough flexibility for advisers to address these items without implying that economic terms are unaffected.
Use a comparison matrix for all serious offers. Include expected cash, present value, financing certainty, diligence risk, exclusivity, transition burden, retained exposure, and strategic fit. The highest number may still be the weaker offer.
Translate the LOI into economic categories
The owner should be able to explain where each dollar comes from, when it is received, what can reduce it, and what obligation remains after closing.
| Issue | What the owner should assemble | What a buyer is likely to test | Why it changes the decision |
|---|---|---|---|
| Enterprise value basis | Named earnings period and measure, included operations, assumed capital structure, valuation date, and treatment of recent performance. | Confirm that the offer's multiple and price use the same normalized earnings and business perimeter discussed by the seller. | Ambiguity allows later redefinition of EBITDA, excluded assets, or required costs. |
| Cash, debt, and debt-like items | Debt schedule, cash policy, leases, accrued bonuses, taxes, transaction expenses, owner items, and payoff letters. | Classify each obligation and test for double counting in working capital or price adjustments. | Items treated like debt reduce equity proceeds even when enterprise value remains fixed. |
| Working capital and inventory | Illustrative definition, target method, included accounts, reserve policy, historical schedule, and sample true-up. | Estimate the target and likely closing balance under the proposed rules. | An undefined normal level can become a large post-LOI reduction. |
| Deferred and contingent value | Note terms, earnout metric, calculation examples, control rights, reporting, setoff, security, priority, and dispute process. | Model payment under base, downside, buyer-action, and dispute scenarios. | Nominal consideration may have lower present and expected value than cash. |
| Process and closing conditions | Diligence scope, financing status, approvals, exclusivity length, buyer milestones, access, termination rights, and expense allocation. | Identify conditions within buyer control and the seller's cost of losing alternative buyers. | Broad conditions and long unstructured exclusivity shift timing and execution risk to the seller. |
Worked example: a $5 million LOI becomes $3.55 million at closing
Assume an owner receives a $5 million cash-free, debt-free enterprise-value indication. Before accepting exclusivity, the adviser converts it into an illustrative proceeds bridge.
| Bridge item | Amount | Certainty at LOI | Owner question |
|---|---|---|---|
| Headline enterprise value | $5,000,000 | Stated | What earnings and business perimeter support it? |
| Funded debt and payoff fees | ($520,000) | High | Are leases or other obligations also debt-like? |
| Working-capital shortfall | ($260,000) | Low until defined | What target and reserve rules produce this estimate? |
| Indemnity escrow | ($300,000) | Cash deferred | When and under what claims is it released? |
| Seller note | ($250,000 cash conversion) | Deferred credit exposure | What are term, security, priority, and setoff? |
| Transaction expenses | ($120,000) | Estimate | Which fees, bonuses, and taxes are separate? |
The owner may receive approximately $3.55 million of cash at closing before income taxes, with $550,000 held as escrow or seller credit and further exposure to final working capital. The enterprise value did not change; the form and timing of equity proceeds did.
If a competing $4.7 million offer delivers more cash, uses a defined target, has limited escrow, and is fully financed, it may have greater expected value. The comparison should include execution probability and the cost of exclusivity, not only arithmetic.
The example also shows why a single net-proceeds number is insufficient. The owner needs a timeline showing closing cash, escrow releases, note payments, earnout windows, tax payments, and downside recovery.
A pre-signing LOI review in six documents
Do the arithmetic and define the open questions before the no-shop begins. Unresolved items should be explicit, materiality-ranked, and assigned.
- 01
Enterprise-to-equity bridge
Start with enterprise value and list cash, funded debt, debt-like items, working capital, inventory, expenses, escrow, notes, earnouts, and other consideration. Separate cash at closing from later proceeds.
Deliverable: Sources, uses, and timing schedule
- 02
Earnings definition sheet
Name the financial period, SDE or EBITDA definition, accepted adjustments, accounting basis, and treatment of performance through closing. Attach the actual bridge used to derive price.
Deliverable: LOI earnings reference schedule
- 03
Contingent-value model
Write formulas and worked examples for earnout or rollover value. Test buyer control, accounting choices, allocations, acquisitions, termination, disputes, and information access.
Deliverable: Deferred-consideration scenario model
- 04
Financing and approval tracker
List committed and uncommitted sources, lender diligence, equity approvals, investment committee, third-party consents, regulatory items, and dates. Distinguish a financing plan from a commitment.
Deliverable: Closing-condition milestone tracker
- 05
Exclusivity calendar
Define duration, buyer deliverables, data-room response expectations, financing milestones, draft timing, extensions, and seller termination rights. Value the cost of pausing other conversations.
Deliverable: No-shop performance calendar
- 06
Tax and legal issue list
Review asset versus equity structure, purchase-price allocation, employment and consulting, restrictive covenants, real estate, indemnity, licenses, and employee matters before economic terms harden.
Deliverable: Adviser-reviewed red-flag memorandum
Where otherwise credible analyses break down
Accepting customary working capital
Why it matters: The phrase does not define accounts, target, reserves, seasonality, or the likely adjustment.
Better approach: Attach an illustrative calculation and state the principles that will govern the definitive agreement.
Counting escrow, earnout, and seller paper as closing cash
Why it matters: These amounts differ in timing, risk, control, and recovery and may never convert at face value.
Better approach: Present each form of consideration separately with expected timing and scenario value.
Granting exclusivity without buyer milestones
Why it matters: The buyer can consume time, learn the business, and seek financing while the seller loses market leverage.
Better approach: Tie the no-shop period and extensions to defined diligence, financing, document, and approval progress.
Deferring tax allocation until the purchase agreement
Why it matters: Buyer and seller can have different tax preferences, and allocation can materially change after-tax proceeds.
Better approach: Model structure and allocation ranges with advisers before the LOI is final.
What a defensible owner decision looks like
The purpose of an LOI is not to solve every definitive-document issue, but it should accurately frame the major economics and process. If the owner cannot bridge headline value to expected proceeds, the offer is not ready for comparison.
A disciplined review preserves optionality. It identifies the few terms capable of moving value materially, forces ambiguous assumptions into examples, and lets the owner price execution risk before granting exclusivity.
The review should end with an exceptions list rather than a vague promise to address details later. For every unresolved material term, record the buyer's and seller's current assumptions, the dollar range at risk, the responsible adviser, and the deadline for resolution. That list becomes the control document for definitive negotiations.
Offer comparison should also use a common measurement date. Refresh earnings, debt, cash, working capital, and known transaction expenses for every bidder at the same cutoff. Otherwise one proposal may appear better simply because it uses an older balance sheet, a more favorable earnings period, or fewer disclosed deductions.
Questions owners ask
Is a letter of intent binding?
Often many deal terms are nonbinding while provisions such as confidentiality and exclusivity may be binding. Counsel should review the actual document.
Can a buyer change price after the LOI?
Buyers may seek changes after diligence or financing findings, depending on the document and negotiations. Clear definitions and evidence reduce but do not eliminate retrade risk.
Should the seller accept the highest LOI?
Not automatically. Compare cash, risk, conditions, timing, structure, certainty, and post-closing obligations.
Is an LOI legally binding?
Some provisions may be binding and others nonbinding depending on the document and applicable law. Confidentiality, exclusivity, access, expenses, and governing-law provisions require legal review even when price language is described as nonbinding.
How long should exclusivity last?
There is no universal period. It should reflect diligence complexity, financing, approvals, and document work, with concrete buyer milestones and limited extensions. A longer period without performance protections increases seller risk.
Should an owner accept the highest LOI?
Compare expected cash, deferred-value risk, financing certainty, diligence scope, buyer credibility, working-capital assumptions, tax structure, closing conditions, and timing. The highest nominal price is only one dimension.
Sources and review date
Last reviewed: July 26, 2026. Sources are linked for context; a national benchmark is not a substitute for local comparable sales or a purpose-specific appraisal.
- U.S. Small Business Administration: Merge and acquire businesses — Owner-oriented guidance on valuation, agreements, due diligence, and professional support in an acquisition.
- IRS Instructions for Form 8594 — Explains purchase-price allocation for qualifying asset acquisitions, including inventory, equipment, identifiable intangibles, and goodwill.
- IRS: Closing a business — Identifies federal filing considerations when a business closes or its assets are sold.
- SBA SOP 50 10 lender and development company loan programs — Current SBA lending procedures; financing rules can affect valuation scope, equity injection, seller debt, and change-of-ownership underwriting.
- IRS Publication 537: Installment Sales — Explains installment-sale treatment, contingent payments, unstated interest, debt assumptions, and the separate treatment of assets sold as part of a business.
- International Business Brokers Association glossary — Professional definitions for SDE, transaction terms, and Main Street business brokerage concepts.