Letter of intent (LOI)
A letter of intent signals a buyer's serious interest in proceeding with a supplier, typically before final contract terms are agreed. LOIs may reserve capacity, authorize preliminary work, establish exclusivity during negotiations, or simply document mutual commitment to complete an agreement. LOIs range from non-binding expressions of interest to documents with specific binding provisions.
Examples
Capacity reservation LOI: A buyer issues an LOI to reserve manufacturing capacity with a supplier while contract terms are finalized. The LOI commits the buyer to a minimum order if the contract is completed and protects the buyer's production slot.
Development authorization LOI: Before a full agreement is executed, an LOI authorizes a supplier to begin tooling development, with the buyer committed to reimburse specified costs regardless of whether the relationship proceeds.
Non-binding LOI: A letter of intent states both parties' intention to negotiate a supply agreement for a new product, outlines key commercial terms as a framework for negotiation, and establishes exclusivity for 90 days while negotiations proceed. The LOI explicitly states it creates no binding obligation to complete a deal.
Definition
LOIs bridge the gap between verbal commitment and final contract execution. When business timing requires action before contracts can be completed, LOIs provide a mechanism to move forward while protecting both parties' interests.
LOI binding status matters critically. Some LOI provisions, such as confidentiality, exclusivity, and cost reimbursement, are typically binding. The LOI should clearly state which provisions are binding and which are merely expressions of intent.
LOI risks exist for both parties. Buyers risk being obligated before final terms are set. Suppliers risk investing resources based on commitments that don't materialize. Clear documentation and appropriate legal review helps manage these risks.
LOIs shouldn't substitute for proper contracts. They're tools for managing timing when business needs require early commitment, not mechanisms to avoid the work of finalizing agreements. The goal should be converting LOIs to full contracts expeditiously.
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