Ambiguous Letters of Intent

I have received questions over the years from clients relating to the status of their relationship with a potential buyer or seller of property where there was a signed “letter of intent” followed by some “due diligence” investigation, etc.  With real property, the contract must be in writing in order to be enforceable under California law, however, there are exceptions to this where there has been substantial part performance by one party or where there was substantial money spent on due diligence or other items in reliance on a verbal agreement.  Also, one party might claim that the other party cannot break off negotiations because of the “covenant of good faith and fair dealing” which might require a party to continue negotiating in good faith.  All of these theories, while they might be very difficult for a disgruntled party to actually prevail on, could lead to lawsuits, attorneys, delays, and in the case of a claim against a seller of real property, a lis pendens recorded against the property which could prevent it from being sold to a third party.

I believe that it is a good idea to have the general terms agreed to by the parties before money and time is spent on drafting contracts since you will sometimes learn of fundamental flaws in the deal early enough to save these costs, and it is easier to negotiate on 5-7 conceptual bullet points than it is to draft a lengthy contract.  One of the most common problems with letters of intent, however, is ambiguity.  Is it an offer or is it a non-binding letter of intent?  Many letters will contain elements of both which create the ambiguity.  For instance, a letter could state: “this letter is subject to additional terms to be contained in a final contract,” indicating that it is a non-binding letter of intent.  The same letter could conclude with the phrase, “this letter will be deemed rejected if not accepted by 5:00 p.m. on September ___, 2013.”  This is language of offer and acceptance, i.e. contract, not non-binding letter of intent.  Where a letter containing this type of ambiguity is signed, followed by substantial reliance or due diligence by a party, it could lead to litigation or other unpleasantness.

Where a deal is small and it is not anticipated that there will be much, if any, money or effort spent on due diligence before a contract is executed, a clause something like the following may be used to clarify the non-binding nature of the letter agreement: “This letter may form the basis of further purchase discussions, but it is not an offer capable of being accepted.  If you believe the terms outlined in this letter are acceptable, please let me know so the final terms can be included in a written agreement which will be effective only when executed by the parties.”  Of course, you have to make sure that the rest of the letter doesn’t conflict with this statement as mentioned above.  Where a deal is larger, or it is anticipated that the parties could spend a lot on due diligence before entering into a final contract, a more formal letter of intent is prudent.  For instance, some non-binding letters of intent will have “binding” portions, like confidentiality and insurance and indemnity for pre-contract “due diligence.”  This type of partially binding/partially non-binding letter of intent is usually best drafted, or at least reviewed, by an attorney, especially where the dollar values are high.  Although this focuses on real property transactions, similar principals apply to transactions involving asset purchases, stock sale or other transactions.

Here are other samples of non-binding letter of intent provisions, again, subject to the warnings above re: using ambiguous terms:

Option 1

This letter may form the basis of further settlement discussions, but it is not an offer capable of being accepted.  If you believe the terms outlined herein are acceptable, please let me know so I may reduce them to a ***contract or  settlement and release agreement***.  Nothing in this letter will be admissible in litigation pursuant to California Evidence Code §§ 1152 and 1154 and Rule 408 of the Federal Rules of Evidence.

Option 2

            This letter may form the basis of further settlement discussions, but it is not an offer capable of being accepted.  If you believe the terms outlined herein are acceptable, please let me know so our attorneys can write them into a ***contract or  settlement and release agreement*** which will only be effective when executed by all parties.  Nothing in this letter will be admissible in litigation pursuant to California Evidence Code §§ 1152 and 1154 and Rule 408 of the Federal Rules of Evidence.

Option 3

This letter may form the basis of further purchase discussions, but it is not an offer capable of being accepted.  If you believe the terms outlined in this letter are acceptable, please let me know so the final terms can be included in a written agreement which will be effective only when executed by the parties and approved by ______________, as necessary. [when third party approval is also necessary]

For the mutual protection of both of our clients, neither party will be bound until final written agreement is prepared and executed by the parties.  This letter may form the basis of further purchase discussions, but it is not an offer capable of being accepted.  If you believe the terms outlined in this letter are acceptable, please let me know so that we may prepare a formal ***contract or  settlement and release agreement***.  My client is interested in arriving at a mutually acceptable understanding as quickly as possible.  I look forward to your response.

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