By: André Jerusalmy and Fernanda Lazzarini

When we think about an M&A transaction (short for Mergers and Acquisitions), the documents involved are not limited to the Purchase and Sale Agreement in which the purchase of a company’s equity interest (or assets) is formalized. There are some other formal steps to ensure the transaction is completed in the best possible way, and that is what we will analyze in this article.

Of course, M&A transactions are not all the same, and vary from case to case depending on the particularities of each deal. In any case, it is possible to see a pattern that affects almost all M&As in terms of their phases, as the transactions have in common the preparatory phase (pre-negotiation), due diligence, contract negotiation, signing of the main contract (signing), the closing phase and the post-closing phase.

The preliminary phase of M&A transactions consists of an initial contact between buyers and sellers and the target company, the latter being the object of the M&A. In transactions in which there is a competition between buyers, the initial phase is to inform the group of potential buyers that the target company is available for sale and, at that time, the interested parties prepare acquisition offers containing their proposals.

It is in these proposals that discussions begin on value premises and some other essential issues for the good development of M&A, such as confidentiality agreements (“Non Disclosure Agreement” or “NDA”) and payment conditions.

In this first contact, buyers usually make non-binding purchase offers (also known as Non Binding Offer or, simply, “NBO”) that can be in the form of a Letter of Interest (LOI) and, although non-binding, there is a large negotiation process before these offers are actually sent, since the negotiations occur both between the seller and the buyer and internally within the target company.

What is NBO and when to use it:

An NBO is used in M&A transactions to establish the fundamental premises of the terms of the transaction between the buyer and the seller, serving as a preliminary agreement between these two parties, in which the buyer expresses its interest in acquiring the target company. Except with respect to confidentiality and exclusivity conditions, the NBO is not intended to be legally binding on the parties and therefore does not constitute a binding contractual commitment to proceed with the transaction to completion. In this sense, the NBO is often used to keep discussions and negotiations ongoing between the buyer and the seller, as it serves as a

useful instrument to show whether both parties share similar terms and visions regarding the transaction.

In this preliminary phase, negotiations on the values and conditions of the M&A transaction begin. Negotiations prior to binding offers allow the parties to gain greater knowledge of the other party's intentions and any inconsistencies between the proposals can be adjusted in a timely manner.

The NBO typically has the following components in its structure:

Price. An indication of the price the buyer is willing to pay for the target company. The buyer can provide a summary of how he or she arrived at the proposed price, which will help the seller understand the different offers from potential buyers and decide which price he or she is most comfortable moving forward with;

Conditionality. The NBO should outline the conditions that the seller and buyer must meet during the process. Conditions include internal approvals and any regulatory requirements that the parties need to comply with, such as due diligence and disclosure of information;

· Timeframes. The NBO must disclose any material issues related to the transaction that require it to be completed within a certain timeframe. A buyer interested in acquiring the target company must clearly disclose its ability to complete the transaction before the preferred timeframe in order to gain a competitive advantage over other potential buyers;

· Final agreement. The NBO should refer to the transaction documents that will be signed to formalize the M&A. If the buyer is committed to seeing the transaction through to completion, it should require its inclusion in the documentation to increase the chances of success. The buyer should also make clear its expectations for the other party to the transaction so that they are included in the final documentation formalizing the transaction;

· Position of the initial offer. The NBO should include clear text stating whether the offer is legally binding or not. While some aspects of the NBO, such as the confidentiality and exclusivity clause, are binding, other sections such as the indicative price and the offer itself should be distinguished as non-binding. It should also state that the buyer may freely withdraw from the agreement at any time prior to the execution of the definitive contract;

Confidentiality. The NBO should include a guarantee that the offer made by the prospective buyer is confidential. However, it should indicate the type of information that will be disclosed to facilitate the sale process and that may be exempt from confidentiality requirements; and

Costs. The NBO must provide an explanation of the terms of payment for the offer and any other non-cash consideration that the seller is willing to accept (e.g., the amount of cash and stock payments). The buyer must disclose the source of the payment.

advance of funds to finance the transaction and the time required before all funds are secured. The costs section may also refer to which party will bear the costs of handling documentation and hiring legal and financial advisors, as well as whether there will be any cost sharing.

After the preliminary phase is complete, the proposals become binding and negotiations begin to specifically draft the transaction. In other words, the binding effect between the parties only becomes effective when both parties agree to sign a definitive agreement indicating that the offer is legally binding.

When an NBO may become binding:

The NBO, as its name suggests, is a non-binding instrument. However, there are scenarios in which the NBO may be executed on its merits, such as if the parties use the material terms offered therein in the final contract or if the parties already use the NBO itself as the final contract. In such cases, instead of being a simple offer that can be accepted (or not) according to the will of the parties, the NBO will present great risks and unintended consequences for the parties if it is not recognized and treated with caution, and errors in the documentation and/or conduct of the parties may result in undone business and possible damages. In short, even an NBO drafted with caution and clarity may not be free of risks or unintended consequences.

In general, the non-enforceable measures present in the NBO include materially negotiable terms, such as price, term, guarantees, among others, which are provisions used as a basis for initiating negotiations. Meanwhile, enforceable provisions are generally those intended to protect the proposed agreement or the expectations of the parties. In other words, in the NBO the parties are not bound by the material conditions, but it is undeniable that there is a binding existence in the conditions that provide for the preservation of the good faith of the parties in the negotiation.

Thus, even if the terms of the stated agreement are non-binding, partial performance of the stated terms (or other terms deemed to have been agreed upon by the parties) as well as acting in a manner that would lead third parties to believe that an actual agreement existed may be sufficient to bind the parties to the NBO. In other words, a term in the NBO expressing that the parties will only be bound if a final contract is entered into does not eliminate the possibility of the NBO having a binding effect, since the parties may be liable if there is a breach of good faith resulting from the violation of a confidentiality or exclusivity clause or even due to contradictory conduct in the negotiation.

Therefore, good faith is the key to business and it is what will dictate whether the agreement in the NBO will be binding or not. In general, good faith requires fair and commercially reasonable action, consistent with the reasonable expectations of the parties. The obligation of good faith ensures that the investments of the parties in time, money and effort will not be eliminated by an arbitrary change of intentions or unreasonable delay not contemplated by the terms of the NBO.

This means that the parties cannot frustrate the agreement by acting unreasonably or contrary to the terms of the NBO. The purpose of an NBO is often to establish parameters for future negotiations. For example, if a seller in the middle of negotiations deliberately tries to derail the transaction in favor of a better deal, that seller would be risking a good faith claim by attempting to kill the deal through unreasonable negotiating tactics, such as tripling the asking price unreasonably, or arbitrarily asking for a 100% deposit on a “take it or leave it” basis.

Why use NBO in an M&A?

In view of the above, a potential buyer in an M&A transaction should use the NBO as a way to stand out from other interested parties in the eyes of the seller, since the offer will demonstrate the buyer's ability to meet the seller's conditions and desires to acquire the target company. Therefore, the NBO will be an instrument used for the smooth development of the transaction, since it has the role of aligning the expectations of the parties, clarifying the essential conditions of the negotiation, announcing the objective of the negotiation and protecting the parties in the event that the transaction ends while still in the negotiation phase, since, by its nature, it is a non-binding tool.