By Al Wadyat CapitalPublished 8 min read
A letter of intent records where two parties believe a transaction could go next. It can narrow the negotiation and open the diligence process, but it is not a substitute for the definitive documents that create the investment.
Read an LOI in two layers: the commercial terms that frame a possible deal, and the clauses that say what the parties must do before any deal exists. The second layer can matter immediately even when the first is described as non-binding.
The job of the document
An LOI turns a conversation into a proposed structure. It identifies the parties, the transaction being discussed, the main commercial terms and the conditions that still have to be satisfied. That makes it a negotiating map: specific enough to reveal disagreement, but usually incomplete by design.
The National Venture Capital Association describes a letter of intent as a document confirming an investor's intent to participate in a financing and treats it as another name for a term sheet. Its model documents are starting points rather than advice for a particular transaction.Sources for this passage: NVCA model legal documents
The document is useful because it moves the expensive drafting stage behind a cheaper alignment test. If the parties cannot agree on the structure in a short outline, more detailed documents will not solve the underlying disagreement.
What it is not
An LOI is not proof that money will be invested, that diligence will be satisfactory or that a closing will occur. It does not replace the subscription agreement, shareholders' agreement or other definitive documents required by the chosen structure.
Publicly filed transaction documents show the distinction clearly: an LOI may state that no obligation to complete the transaction arises unless definitive agreements are executed, while making selected provisions effective immediately.Sources for this passage: SEC-filed example of a non-binding LOI
The title is not the legal analysis. Calling the whole document non-binding does not answer whether a particular clause on confidentiality, exclusivity, costs or governing law is intended to operate before closing.
The commercial layer
The commercial layer records the proposed economics and control: the instrument, amount, valuation framework, ownership, governance, information rights, conditions and expected sequence. None should be read alone. A headline valuation can be changed materially by liquidation preference, option-pool treatment, conversion mechanics or rights attached to the new securities.
This is where a forward cap-table model is more useful than a summary. It shows what the proposed terms mean after conversion and after a later financing, which is the context the next investor will inherit.
The aim is not to fill every possible clause. It is to make the important trade-offs explicit enough that neither side reaches definitive drafting with a different idea of the deal.
The clauses that may operate now
The process layer governs the period between signing the LOI and either signing definitive agreements or walking away. Common subjects include confidentiality, access to information, exclusivity, responsibility for costs, publicity, governing law and the date on which the outline expires.
Each one changes behaviour before the investment exists. Exclusivity can limit other fundraising conversations. Confidentiality can control what may be shared with advisers or the market. A costs clause decides who carries work that may not lead to a closing.
The correct question is therefore not simply whether the LOI is binding. It is which provisions say they are binding, what conduct they require and when they stop applying. That question belongs with qualified counsel in the relevant jurisdiction.
Conditions are not promises
Diligence, internal approval, regulatory clearance and definitive documentation often appear as conditions to a possible transaction. A condition names something that must happen before closing; it does not promise that the condition will be satisfied.
This distinction prevents a common planning error. A founder may treat a signed outline as committed capital and make spending or runway decisions around it. The document may instead say only that the investor is prepared to continue evaluating the opportunity on the stated basis.
Operational planning should continue to distinguish a proposed financing, a signed definitive agreement and cleared funds. They are different states with different evidence.
A practical reading order
Start with the paragraph that describes binding effect, then mark every clause it incorporates. Read the expiry and termination language next. Only then review the economics, because that sequence tells you which parts are an outline and which parts govern the negotiation you are about to enter.
Compare the economics with the current cap table and the funding-instrument analysis already completed. List every open definition and every term that depends on diligence. Finally, write down what the document does not say: missing subjects tend to reappear later as drafting disputes.
An LOI is most useful when it reduces ambiguity without creating false certainty. Treating it as a map preserves both benefits.