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Heads of Agreement: Key Legal Considerations for Small Businesses

Table of Contents

In Short

  • A preliminary document outlining key terms of a deal, often non-binding but with some binding clauses like confidentiality or exclusivity.
  • Pay attention to binding clauses such as confidentiality, exclusivity, and intellectual property, which protect your business interests.
  • Premature commitments, overlooked details, insufficient protection, and unclear exit strategies can create pitfalls.

Tips for Businesses

When negotiating a Heads of Agreement, clearly distinguish between binding and non-binding clauses. Ensure binding clauses protect your business interests, particularly around confidentiality and exclusivity. Avoid premature commitments by keeping terms flexible and ensuring sufficient due diligence before finalising a formal agreement. Always seek legal advice to safeguard your position.

As a small business owner, you may find yourself negotiating complex business deals. At the beginning of these negotiations, someone may ask you to negotiate and sign a Heads of Agreement (also known as a Letter of Intent or a Term Sheet). First, it is essential to understand whether the Heads of Agreement is legally binding, part-binding, or non-binding. Even if the document is legally binding, it may still have legal implications further down the line, such as in the event of a dispute. 

What is a Heads of Agreement? 

A heads-of-agreement is a document that outlines the key terms of a proposed agreement between you and the other party. Parties often use it to streamline further negotiations and help ensure that they agree on the key terms of the deal before signing a more substantial contract. As mentioned earlier, the document is generally not intended to be legally binding.

However, some clauses may be legally binding. Therefore, you should carefully read the terms of the Heads of Agreement to confirm whether any are intended to be legally binding.

It is important to note that, because you sign this document early in the negotiation process, further negotiations and the due diligence process may lead to changes in some aspects of the commercial details. In most cases, the commercial terms set out in the Heads of Agreement are non-binding. However, the document has specific provisions that the parties will agree are legally binding.

Common Legally Binding Clauses 

To confirm the binding nature of the Heads of Agreement, you should check whether the document includes a clause specifying which clauses, if any, are enforceable. You should draft the following clauses to be legally binding within a Heads of Agreement:

Confidentiality Clause 

The confidentiality clause within the Heads of Agreement is a clause that you will want to make sure is legally binding, especially if you have not already signed a separate Non-Disclosure Agreement with the other party. It is often the case that the parties will be sharing sensitive business information during negotiations. Therefore, you should include a robust confidentiality clause.

Proprietary information and trade secrets are often a small business’ key competitive advantage. A well-drafted confidentiality clause ensures that your business ideas and essential business information remain protected. It also ensures that you keep any financial information you share private and do not share any intellectual property or data improperly. You should explicitly state this clause as binding to protect your business interests.

Exclusivity Clause 

An exclusivity clause prevents the parties from negotiating with other potential partners for an agreed-upon period. An exclusivity clause should include key elements such as the duration of the exclusivity period, the activities covered, and the consequences of breaching the exclusivity. Exclusivity clauses can be both beneficial and risky. 

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The benefit is that exclusivity clauses assure you that the other party will not waste the resources you invest in negotiations by pursuing alternative deals. However, the risk is they limit your ability to explore other opportunities during the specified exclusivity period if the exclusivity clause applies mutually.

Intellectual Property Clauses

Often, parties do not create intellectual property before finalising the formal contract. However, this may happen in some cases. In addition, you may need to exchange some intellectual property with the other side during the Heads of Agreement phase of negotiations. 

While there may be some protections for existing intellectual property contained within the Confidential Information clause (or a separate Non-Disclosure Agreement), you should consider whether any binding intellectual property clauses are required to clarify ownership rights and any licence granted to the other party.

Non-Binding Clauses 

The rest of the agreement is usually non-binding. However, it is equally important that you review and understand the non-binding terms. Ensure that the commercial terms align with your discussions with the other party. 

The commercial terms may include: 

  • purchase price; 
  • payment terms; 
  • key deliverables/milestones; and 
  • completion timelines. 

As a small business owner, you should understand that the parties have not fully decided on these terms at this stage.

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Potential Risks 

The following are potential risks to be aware of while negotiating and entering into a Heads of Agreement:

  • Premature Commitment: Be cautious about committing to terms too early in the process. Ensure you have the flexibility to adjust terms as more information becomes available. You do not want to be committed to terms you agreed to before having the necessary information to make a decision or before the opportunity arises to do due diligence on the other party;
  • Overlooking Important Details: In the rush to reach an agreement, it is easy to overlook crucial details. Take the time to thoroughly review all terms. Ensure you understand what obligations you are agreeing to at this stage; 
  • Exit Strategies: Ensure clear provisions for terminating negotiations are included within the agreement if necessary. Consider reasons why you may no longer wish to work with the other party or when you may want to terminate the exclusivity period (if any). You do not want to be locked into discussions indefinitely, especially if it appears that you may not be able to agree with the other party; and
  • Insufficient Protection: Ensure that confidentiality and intellectual property protections are robust enough to safeguard your business interests beyond negotiations. Your hard work, ideas, and business secrets should be protected and not be disclosed, shared, or transferred, regardless of whether a further agreement is entered into. 

Key Takeaways 

Heads of Agreement are crucial documents in business negotiations, particularly for small businesses engaging in significant transactions. While not entirely legally binding, they set the stage for future negotiations and can have substantial legal implications. 

Key points to remember include:

  • understand which clauses are binding and which are non-binding;
  • pay particular attention to confidentiality and exclusivity clauses;
  • carefully structure your Heads of Agreement and ensure you cover all key points; and
  • be aware of potential pitfalls and negotiate strategically to protect your interests.

If you need help with a Heads of Agreement, our experienced contract lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents for a low monthly fee. So, call us today on 0808 196 8584 or visit our membership page.

Frequently Asked Questions

What happens if a party breaches a binding clause in a Heads of Agreement?

If a party breaches a binding clause, such as a confidentiality or exclusivity clause, the other party may have grounds for legal action. A court could award damages or order specific performance.

Can a Heads of Agreement become a binding contract?

While Heads of Agreement are typically non-binding, you can make them enforceable as binding contracts if you include all the elements of a contract and clearly intend for them to be binding. You must clearly state which parts are intended to be binding to avoid confusion.

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Humna Ahmad

Humna Ahmad

Trainee Solicitor | View profile

Humna is a Trainee Solicitor at LegalVision within the Corporate and Commercial team.

Qualifications: Humna graduated from the City, University of London with a Bachelor of Laws (Hons) and then completed the Legal Practice Course and Masters in 2023. Prior to joining LegalVision, Humna worked at a high-street firm, gaining experience in a variety of areas such as Property, Corporate and Commercial.

Read all articles by Humna

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