Letter of Intent to Buy a Business in Ontario: What to Include, Clause by Clause

A letter of intent is the first document a buyer and seller sign in a business purchase. It records the commercial deal they have reached in principle, so that both sides can spend money on due diligence, financing and lawyers knowing that the other side is working toward the same transaction. It is short, usually three to six pages, and most of it is expressly non-binding.

That last point is the reason a letter of intent needs more care than its length suggests. In Ontario, whether a letter binds the parties depends on what they intended, judged from the words and their conduct, not on the title at the top. In Wallace v. Allen the Court of Appeal for Ontario enforced a letter of intent for the sale of a business because the parties had agreed every essential term, said the letter "must be reduced into a binding agreement of purchase and sale" within 40 days, and then behaved as if the deal were done. Our guide to whether a letter of intent is binding covers that question in depth. This article covers the other half: what the letter should actually say.

The terms below follow the order most Ontario letters use. Our free LOI and term sheet builder produces a first draft in the same order, which you can bring to a lawyer rather than starting from a blank page.

Who is buying and who is selling. Name the legal entities exactly as they appear on the corporate registry. If the buyer plans to incorporate a new company to make the purchase, say so, and say whether the signing buyer will remain responsible until that company adopts the deal. In an asset sale the seller is the corporation, which signs the letter; in a share sale the sellers are its shareholders. Either way, individual owners who are not otherwise parties sign only for the covenants that will bind them personally, such as a non-compete.

What is being bought. Decide, in the letter, whether this is a share purchase or an asset purchase. In a share purchase the buyer acquires the corporation itself, with every asset, contract, employee and liability inside it. In an asset purchase the buyer picks the assets and assumes only the liabilities it lists. The choice drives tax for both sides, the consents you will need, how employees transfer and what the purchase agreement will look like, so it is not a detail to leave for later. Our checklist for buying a business in Ontario walks through the trade-offs.

If it is an asset deal, the letter should list the main categories of assets (equipment, inventory, contracts, leases, intellectual property, goodwill, business name, phone numbers and domains) and the excluded assets, typically cash, tax refunds and anything personal to the owner. It should also state which liabilities the buyer will assume. "None, except those expressly listed in the purchase agreement" is the usual buyer position.

The headline price. State the purchase price and whether it is for shares or assets on a cash-free, debt-free basis. If part of the price is allocated among asset classes for tax purposes, the letter can record the intended allocation, but the final allocation belongs in the purchase agreement.

Payment. Say how much is paid at closing, how much is deferred and on what terms. Three mechanisms appear in most private deals in Ontario:

• A deposit paid on signing the letter or shortly after, held in a lawyer's trust account and credited to the price at closing. Our article on deposits and break fees explains when it becomes non-refundable.
• A vendor take-back, where the seller lends part of the price back to the buyer and is repaid over time, usually secured against the business.
• An earn-out, where part of the price is paid only if the business hits revenue or profit targets after closing. If you use one, the letter should state the metric, the measurement period, the maximum payment and who controls the business during the earn-out period, because those points are where earn-outs are fought over.

Working capital. Most share purchases include a working capital adjustment: the price assumes the business comes with a normal level of receivables, inventory and payables, and the price moves up or down at closing to the extent the actual level differs. The letter should at least say that there will be an adjustment and how the target will be set, usually from a trailing average of monthly balance sheets.

Holdbacks. If part of the price will be held back after closing to cover indemnity claims, set the amount and the release date in the letter. A buyer who introduces a holdback for the first time in the purchase agreement will meet resistance that could have been avoided.

Conditions. List what must happen before either party has to close. For a buyer, that is usually satisfactory due diligence, financing on acceptable terms, assignment of the premises lease and key contracts, and any regulatory licence the business depends on. For a seller, it is often a release from personal guarantees and the buyer's proof of funds. Where an Ontario corporation sells all or substantially all of its property other than in the ordinary course of business, section 184 of Ontario's Business Corporations Act requires approval by special resolution of the shareholders, and the letter should treat that approval as a condition. Our guide on shareholder approval for selling business assets explains the vote.

The due diligence period. Give it a start date, usually the date the seller opens its data room, and a length, commonly 30 to 60 days for a private business. Say what the seller must provide and whether the buyer's satisfaction is judged in its sole discretion or acting reasonably. Our article on the due diligence period sets out the standard terms.

Closing and outside dates. A target closing date tells everyone how fast to work. An outside date, after which either party can walk away if the deal has not closed, stops a transaction from drifting for months. Include both.

Employees. If the deal is a share purchase, employees stay employed by the same corporation and their employment continues through closing, although change-of-control terms in individual contracts should be checked. In an asset purchase, the buyer chooses whom to offer employment to, and section 9 of the Employment Standards Act, 2000 deems the employment of anyone the buyer hires within 13 weeks to be continuous for the purposes of that Act, which carries their service forward for notice and severance. The letter should state the buyer's intention for employees and which key people the buyer expects to sign new agreements before closing.

A well-drafted letter states, in one clause, which paragraphs are binding and that nothing else creates an obligation to close. The binding paragraphs are normally these.

Confidentiality. Everything the seller discloses is confidential and may be used only to evaluate the transaction. If a non-disclosure agreement was signed earlier, the letter refers to it and confirms it continues.

Exclusivity. The seller agrees not to solicit or negotiate with any other buyer for a fixed period, matched to the due diligence period. This is the clause buyers care about most and sellers should limit most carefully. Our guide to exclusivity and no-shop clauses covers the length, the carve-outs and the remedies.

Expenses. Each party pays its own costs, whether or not the deal closes. If the seller is to reimburse the buyer's costs in some circumstances, that is a break fee, and it needs careful drafting.

Access and conduct of business. The seller gives the buyer access to records and premises during due diligence and runs the business in the ordinary course until closing, without unusual distributions, new long-term commitments or changes to key staff.

Governing law. Ontario law and the courts of Ontario, for a business located here.

Non-binding statement. A sentence that the remaining terms are a statement of present intention only, that neither party is obliged to continue negotiating, and that no agreement to buy or sell exists until a definitive purchase agreement is signed. Draft this clause plainly and keep your conduct consistent with it; Wallace v. Allen shows how conduct after signing, such as working in the business and being introduced to staff as the new owner, can confirm an intention to be bound.

The seller's post-closing restrictions. A buyer who pays for goodwill expects the seller not to open up across the street. The letter should state the length and territory of the seller's non-compete and non-solicit covenants. Ontario's ban on employee non-competes in the Employment Standards Act, 2000 has an exception for a seller who becomes the buyer's employee immediately after the sale, but the Ministry of Labour's guide reads that exception as limited to businesses operated as a sole proprietorship or partnership, so where the business is incorporated the covenant needs to be structured with care. Either way, the covenant still has to be reasonable to be enforced. See our guide on whether non-competes are enforceable in Ontario.

Transition. How long the seller will stay on after closing, at what pay, and what introductions to customers and suppliers the seller will make. Two to twelve weeks is typical for an owner-operated business.

HST. Where the buyer acquires all or substantially all of the property needed to carry on the business, the parties can jointly elect under section 167 of the Excise Tax Act so that no GST/HST is payable on most of the property sold. The election is not available where the seller is a GST/HST registrant and the buyer is not. The letter can record that both parties intend to make the election; the election itself is made on CRA Form GST44, which the buyer files with the CRA by the due date of its return for the reporting period in which the tax would otherwise have become payable.

Approvals. Landlord consent to assign the lease, franchisor consent for a franchised business, and any professional regulator for a licensed practice. Our guide to buying a dental practice shows how regulatory consent changes the timetable.

Public announcement. Who may tell employees, customers and the public, and when. Sellers usually want nothing said until closing.

A letter that settles these points makes the purchase agreement a drafting exercise instead of a second negotiation. One that leaves them open invites both. If you are about to sign one, ask us to review the letter of intent before it goes out, while every term is still open.