The beginning of any corporate transaction is a critical phase where parties outline how they intend to structure the deal. At this stage, it is common for parties to engage legal and financial advisers to help articulate the key commercial and legal principles that will underpin the transaction. These principles are typically captured in a document known as the Heads of Terms (also referred to as a Term Sheet or Memorandum of Understanding).
While not usually legally binding (except for certain provisions like confidentiality and exclusivity), Heads of Terms serve as a roadmap for the transaction and help ensure alignment before detailed documentation begins.
Key elements in a sale
In a sale, the Heads of Terms will often include the following core components:
- Consideration: This refers to the price the Buyer is willing to pay, and the Seller is willing to accept, for the shares or each asset. It is essential to agree on whether the consideration is fixed or subject to adjustment (e.g., based on net asset value or earn-out mechanisms).
- Form of consideration: The deal may involve:
- Cash only, which is straightforward.
- Cash and shares, where the Buyer may offer shares in its own company as part of the payment. This can be attractive to Sellers who wish to retain an interest in the combined entity or benefit from future growth.
- Payment structure: Parties must decide whether the full consideration will be paid at completion or if there will be deferred payments, such as instalments or contingent payments based on future performance of the target company.
- Conditions precedent: These are requirements that must be satisfied before the transaction can complete. Common conditions include:
- Buyer securing financing.
- Regulatory approvals.
- Satisfactory due diligence outcomes.
- Timetable: A clear timeline for key milestones such as signing, completion, and any interim steps helps manage expectations and resources.
- Exclusivity: Sellers may agree not to negotiate with other potential Buyers for a defined period. This gives the Buyer confidence to invest time and money in progressing the deal. However, exclusivity is often conditional; for example, if the Buyer fails to secure financing by a certain date, the Seller may then be free to engage with other parties.
- Costs and responsibilities: The Heads of Terms should clarify who bears the costs of advisers, due diligence, and transaction documentation. Typically, each party pays its own costs, but exceptions may apply.
Why Heads of Terms matter
Although not binding in full, Heads of Terms play a vital role in:
- Reducing misunderstandings by documenting agreed principles early.
- Facilitating smoother negotiations of the final sale and purchase agreement.
- Providing a framework for advisers to begin due diligence and drafting.
For both Buyers and Sellers, understanding and negotiating Heads of Terms is a strategic step in any corporate transaction. It sets the tone for the deal and can significantly influence its success. Parties should approach this stage with clarity, professional advice, and a focus on long-term objectives.
In summary, Heads of Terms are a vital first step in any corporate transaction. They help align expectations, reduce misunderstandings, and provide a foundation for the legal documentation that follows. Sellers should approach this stage with clarity and professional support to ensure their interests are protected from the outset.
How can we help?
Early-stage decisions can shape the entire transaction. At RIAA Barker Gillette (UK), our Corporate and Commercial team advises Buyers and Sellers at the Heads of Terms stage to help ensure key commercial principles are clearly agreed, risks are identified early, and negotiations start on a solid footing. We work closely with clients and their advisers to support transactions that are well structured from the outset and capable of progressing smoothly. Speak to our head of corporate and commercial, Victoria Holland, today.
About the author
Zarenna Porter is a solicitor in the Corporate and Commercial department. Her work spans a wide range of corporate and commercial matters, including acquisitions and disposals, share buybacks, company reorganisations and the drafting and negotiation of commercial contracts and agreements. She has supported businesses operating across different sectors, tailoring her advice to suit the distinct needs of both sole traders and larger corporate entities.