Letters of Intent
“LETTERS OF INTENT” AND THEIR IMPACT ON CRAFTING COMMERCIAL LEASES
This article provides a basic explanation of a “Letter of Intent.” This article is not intended to give the reader legal advice. Letters of Intent can range in complexity and the degree to which the contracting parties are bound. Whether a Letter of Intent is binding, partially binding, or non-binding, will have a significant impact on the final lease agreement. Consequently, this article is not intended to substitute for the advice of an attorney as to a specific problem or transaction. If the reader has a specific legal question or needs legal advice, the reader should contact an attorney.
At Last & Faoro, we are regularly retained by commercial tenants to review, draft and negotiate commercial leases. Unfortunately, before we are given the opportunity to review the proposed lease, the principal “business terms” of the lease are narrowed or defined (by the Realtors or discussions between landlord and tenant) pursuant to a minimally discussed or negotiated “Letter of Intent”. Consequently, in many instances our ability to help commercial tenants is dramatically hampered. Many Landlords refuse to discuss or expand “business terms” or Tenants’ needs not fully outlined or provided for in an executed “Letter of Intent” (LOI).
WHAT IS A LETTER OF INTENT FOR A COMMERCIAL LEASING TRANSACTION?
A LOI is a document establishing the initial structure to a lease, setting forth the substance of some or many of the proposed terms of the lease. The LOI is written as an outline for certain hypothetical terms to which the tenant and landlord will “negotiate” for the “final” lease agreement. The detail and depth of each LOI will vary given the complexity of the lease and the parties involved. Although a LOI is not required, a LOI provides acknowledgement of major negotiation points prior to drafting a lease. In addition, a comprehensive LOI allows attorneys to focus on the terms most important to the parties, reducing transaction costs and legal fees.
BINDING VERSUS NON-BINDING LETTER OF INTENT
The majority of LOIs are not binding on any of the parties involved. However LOIs can be binding, non-binding or include a few binding provisions. California courts have consistently ruled that if the parties intended the LOI to be non-binding until the execution of final lease documents, the LOI should include certain statements indicating a non-binding intent. A statement that there shall be no binding agreement until the completion of a formally written and signed lease provides a foundation for a non-binding LOI. However, a non-bonding statement may still not be enough to ensure a LOI does not become a binding agreement.
When a LOI is not intended to be binding on either the landlord or the potential tenant, it should contain a comprehensive disclaimer. The disclaimer should include: (1) the LOI is not intended by the parties to be binding; (2) it is simply a proposed list of terms on which the parties might consider when entering into a binding lease; (3) no party shall be bound until a lease has been agreed to by the parties and approved by their respective attorneys; (4) the LOI is not intended to be an offer to lease the premises; (5) the LOI is not intended to be construed as committing either party to negotiate with the other, or preclude either party from negotiating with a third party; (6) the implied covenant of good faith and fair dealing does not attach to the letters of intent; (7) the parties may continue to negotiate with other parties; and, (8) any reliance by a party on the terms of the LOI is at that party’s peril.
Landlords and tenants may agree to be partially or fully bound by the LOI for particular circumstances. For instance, circumstances where significant costs of preparing lease documentation will occur or where the property is temporarily taken off the market, the LOI may have binding provisions. Certain provisions are best to be binding on the parties. For example: covenants of confidentiality; limitations on further marketing or offers; obligation to negotiate in good faith; or, agreements to pay for certain specified costs. If these or any similar terms are included they should be binding. When the LOI has binding provisions, the parties must take care to delineate the remedies or rights available to the parties if any of the binding terms are violated. The drafting party of the LOI should choose words and word tense carefully, as it can be a significant written indication of an intent to be bound.
DRAFTING A LETTER OF INTENT
As discussed above, the LOI may be partially binding or non-binding. To demonstrate the LOI is not a binding agreement and to keep the deal progressing, the drafter of the LOI should include dates by which the formal agreement will be completed and signed. The drafter should also set a date by which the LOI will terminate if no formal agreement occurs. An additional clause that may be included is one specifying what terms are missing and will be determined by the formal / final lease agreement. It should be acknowledged that the actions of parties involved may impact a Court’s determination as to whether a LOI is binding or not. If a party is not prepared to be bound by all the terms in the LOI, that party should avoid actions such as taking possession of the premises and paying rent or issuing a press release announcing the “deal” before the final lease agreement is complete.
Letters of Intent are valuable tools for both landlords and tenants in the lease negotiation process. However, as discussed in the article, a Letter of Intent can unexpectedly bind the parties if not carefully drafted. It is recommended that legal consultation ought to be employed by landlords and tenants, proactively, BEFORE a Letter of Intent is signed, to avoid future problems. It is critical for individuals or agents of a company to understand their potential duties and obligations BEFORE (a) agreeing to a Letter of Intent; (b) drafting a Letter of Intent; or, (c) submitting a Letter of Intent to a landlord. While the foregoing article was intended to highlight some necessary clauses to avoid binding Letters of Intent, it does not address all the issues one must consider.
Dennis L. Faoro is a partner at Last & Faoro specializing in Real Estate and Construction Law for over 25 years, assisting contractors, property owners, commercial tenants, developers, and Realtors in real estate and construction matters. He can be reached at 650-696-8350, or by email at [email protected]
Dennis L. Faoro
Last & Faoro
177 Bovet Road
San Mateo, CA 94402
Fax: (650) 696-8365