Dow Schofield Watts llp

Heads of terms

Heads of terms (also known as letters of intent, memoranda of understanding or heads of agreement) set out the terms of a commercial transaction agreed in principle between parties. This note sets out the main considerations arising in heads of terms used in private company acquisitions (shares or assets). 

The majority of the terms are not binding and are subject to contract. Heads of Terms are not essential, but are often prepared to sort out as many issues as possible before the costs related to the detailed due diligence and the preparation of the contract are incurred.

The following matters are normally covered in heads of terms.

Expressed as 'subject to contract' (and therefore not legally binding):

• a description of what is being sold

• any pre-sale conditions (such as pre-sale dividends)

• details of the amount of the consideration and the method of payment

• details of how any contingent consideration (the earnout) will be calculated

• the basis of accounting for any completion accounts that will be used to calculate the consideration

• principal conditions of the offer (eg subject to due diligence, financing, approvals required)

• treatment of any service agreements of the directors and employees

• confirmation that the purchaser has the financial resources to honour the offer

• agreement as to the scope of the due diligence, and who will conduct it

• acknowledgement that the agreement will be subject to warranties and indemnities

• details of any restrictive covenants

• detailed timetable to completion

If the express statement is not made that the agreement is not intended to create binding obligations, a court will be entitled to assume that the agreement was intended to be legally binding, although such a contract is likely to be void for uncertainty.

There are however some heads of terms that the parties intend to be legally binding. The heads of terms should make it clear that in relation to those obligations , the intentions of the parties are that they should be legally binding. In the absence of an express provision the courts are still likely to give effect to a confidentiality clause.

Legally binding:

• confidentiality (if not already agreed)

• exclusivity period

• who will bear the costs (usually each party bears its own costs)

• the jurisdiction

LAST UPDATED MARCH 2005