A letter of intent (LOI) is a document that sets out the broad terms two parties have agreed to in principle, before a formal contract is drafted. It shows up in business acquisitions, commercial leases, investment rounds, and joint ventures. The document isn't a contract in the traditional sense, but it's not nothing either. Getting one wrong costs time, money, and sometimes the deal itself.
What a letter of intent actually contains
Most LOIs cover five core elements: the parties involved, the subject of the transaction, the proposed price or consideration, the key conditions that need to be met, and a timeline for completing due diligence. Some add exclusivity clauses, confidentiality obligations, and a breakout fee if one side walks away without cause.
The detail varies significantly by deal type. A business acquisition LOI typically names the entity being purchased, the purchase price, whether the deal is structured as an asset sale or share sale, and any earn-out provisions tied to future performance. A commercial lease LOI is shorter: rent, term, fit-out contribution, and option periods. Knowing which terms belong in your LOI is often the first real test of whether both parties are aligned.
Is it legally binding?
This is where most people get confused. An LOI is generally not binding in full, but it's rarely entirely non-binding either. Certain clauses, specifically confidentiality, exclusivity, and governing law, are almost always intended to bind both parties from the moment the document is signed. The rest of the terms are typically stated as non-binding, meaning neither party can be sued for failing to complete the transaction on those terms.
That said, courts in Australia have found LOIs to create binding obligations in specific circumstances, particularly when the language is ambiguous or when one party has relied on the document to its detriment. A seller who turns away other buyers during a lengthy exclusivity period, only for the buyer to pull out without cause, may have a claim worth pursuing. The wording matters enormously.
If you're working through an early-stage investment deal, it's worth understanding how this document sits alongside a term sheet. A term sheet serves a similar function in venture transactions, but the two documents are used in different contexts and carry different expectations about what happens next.
When to use a letter of intent
An LOI is most useful when a deal is complex enough to require due diligence before a final contract is drafted, but both parties want to confirm their shared understanding before committing to that process. The document gives the buyer a period to inspect financial records, review contracts, and assess liabilities. It gives the seller confidence that the buyer is serious and, if exclusivity is granted, a guarantee they won't be negotiating in parallel with competing buyers.
Skipping the LOI stage is common in simpler deals, but it creates risk. Without an agreed framework, due diligence can drag on indefinitely, terms can shift as the process unfolds, and one side can use the other's time investment as leverage to push for late-stage concessions. The LOI doesn't eliminate that risk, but it reduces it.
Common mistakes to avoid
Three mistakes appear repeatedly in Australian business deals involving LOIs.
- Treating the LOI as the deal. Some buyers and sellers relax after signing an LOI, assuming the hard work is done. It isn't. The LOI starts the due diligence process, not end it.
- Leaving the exclusivity period open-ended. A 90-day exclusivity clause with no milestone requirements can lock a seller out of the market while a buyer drags their feet. Set a fixed period, typically 30 to 60 days, with defined deliverables.
- Ignoring the confidentiality clause. Even a non-binding LOI usually contains a binding confidentiality obligation. Disclosing deal terms to third parties during negotiations can expose you to a claim.
How it fits into the broader deal process
An LOI sits between the initial negotiation and the binding sale agreement. Once signed, both parties move into due diligence: the buyer reviews financial statements, tax returns, customer contracts, and any known liabilities. The findings from due diligence feed directly into the final contract, including any price adjustments or conditions that emerge. Understanding what a balance sheet contains is particularly useful at this stage, because it's one of the first documents a buyer scrutinises once an LOI is in place.
If due diligence uncovers something material, the buyer can renegotiate or walk away. If the LOI contained a breakout fee, walking away has a cost. If it didn't, the buyer has more flexibility, but the seller has less protection. Neither outcome is inherently wrong; it depends on the bargaining position of each party at the time the LOI was signed.
For anyone buying or selling a business in Australia, getting proper legal advice before signing an LOI is a firm requirement, not a suggestion. The document shapes the entire transaction that follows it.