When a letter of intent arrives, most owners skip straight to the number. That number matters, but it is only part of the story. The terms around the number decide how much you actually keep and how much risk you’re still carrying after closing. Read on to learn about these terms and what matters most for each.
How the LOI Sets the Framework
An LOI typically outlines the proposed purchase price and other key elements of the offer. Depending on the transaction, these may include:
- Cash paid at closing
- Seller financing
- Rollover equity
- Earnout payments
- Working capital requirements
- Financing and closing conditions
- Exclusivity periods
These terms shape the transaction before the purchase agreement is negotiated. An offer with a higher stated price may carry more contingencies, deferred payments or closing risk than another offer.
Representations and Warranties
What are Representations and Warranties?
Representations and warranties are statements you make about your business, covering financials, contracts, compliance, and legal standing. In recent years, the insurance market has grown to cover these claims which has become a standard in M&A transactions.Â
Why Do Representations and Warranties Matter to Sellers?
These statements become the basis for any claim the buyer can bring against you after closing. A narrow, reasonable scope limits your future exposure. A broad, loosely worded scope leaves more room for the buyer to come back later with a claim.
Indemnification
What is Indemnification?
Indemnification is the mechanism that determines whether you have to return part of the purchase price if a representation turns out to be wrong.
Why Does Indemnification Matter to Sellers?
This is where a lot of real financial risk hides. Indemnification means part of your purchase price isn’t fully yours the moment you close. It stays contingent, sitting behind the possibility that the buyer finds something after the fact and brings a claim against it. How much of your proceeds are exposed this way and for how long comes down to three terms that are all negotiated in the purchase agreement:
- Survival period – How long the buyer has to bring a claim. The longer the survival period, the longer your proceeds remain at risk.
- Baskets and caps – the minimum claim size that counts and the maximum total you could owe. A basket sets a floor, so immaterial claims don’t trigger a payout. A cap sets a ceiling, usually a percentage of the total deal value, so your liability doesn’t extend beyond a known limit. Without a reasonable cap, your exposure is effectively open-ended.
- Carve-outs – specific issues, like fraud or unpaid taxes, that fall outside the cap entirely. Every carve-out you accept widens the range of claims that aren’t limited by your cap.
A buyer offering a higher price with weak limits here can leave you more exposed than a buyer offering less with tighter protection.
Escrow
What is Escrow?
Escrow is a portion of the purchase price, held back at closing to cover work capital adjustments and potential claims. This is a small percent of the deal and is supplemented by insurance to protect against representations and warranties and other claims.
Why Does Escrow Matter to Sellers?
This money is yours, but you don’t get it right away. The size of the escrow and how long it’s held directly affect your near-term liquidity. A large escrow held for a long time means a bigger chunk of your price arrives later and only if no claims are made against it.
Earnouts
What are Earnouts?Â
Earnouts are additional payments made after closing, based on the business hitting specific revenue or profit targets.
How Do Earnouts Affect Sellers?Â
An earnout can close a real gap between what you think the business is worth and what the buyer is willing to pay today. It also means shifting the risk onto you. Before agreeing to one, look at who controls the business during the earnout period and how the targets are defined.
The Bottom Line
Two offers with the same headline price can produce very different outcomes once you factor in escrow size, indemnification terms, and earnout structure. Comparing offers on price alone means comparing them on incomplete information.
ArkMalibu represents only the seller. Our job is to help you evaluate the full structure of every offer, so the deal you choose actually delivers what it promises.
Schedule a consultation with ArkMalibu to talk through your options.
