There is no question that insurance agencies in Massachusetts are consolidating. There are a myriad of reasons why. The advent of “Managed Competition” in automobile insurance to baby boomer agency owners reaching retirement age. In this dynamic insurance environment, existing owners of agencies should be on the lookout for opportunities to acquire or to retire an agency.
The information provided in this checklist is not intended to be used as a legal template or considered to be legal advice for any particular situation or party. It is essential to consult with an attorney regarding the specifics of any legal transaction .
A look at letters of intent
This checklist relates to those less formal and non-binding written documents detailing, in general or specific terms, the intentions of parties in considering and executing a final and binding contract regarding an agency purchase or sale. The documents may go by the name “Term Sheet”, “Term Schedule,” “Memorandum of Understanding,” “Letter of Intent” or “Letter of Interest.” In this article, these various documents are identified as “term sheet, memorandum, or letter” in the balance of this checklist.
While these documents usually are nonbinding precursors to legally binding, formal purchase and sale agreements, it is important to understand the potential ramifications of the language utilized in these term sheets, memos, or letters documents. First off, legal advice should always be sought out before putting pen to paper with regards to an agency purchase and sale. Without the proper legal advice an agent may fall into a a trap for the unwary in which a term sheet, memorandum, or letter inadvertently becomes a binding agreement with terms that prejudice one party or the other.
The following are questions and items to consider in negotiating the purchase and sale and documenting it with a term sheet, memorandum, or letter outlining the terms of the proposed purchase and sale.
Why should I use a term sheet, memorandum, or letter in a proposed agency purchase and sale?
If you and the other party involved in the transaction have mental telepathy and, therefore, know exactly what the other is thinking, then yes, a term sheet, memorandum or letter of intent is not for you. For the rest of us, in an economic transaction where one party gains at the expense of another based upon the terms and conditions of the agreement, a term sheet, memorandum, or letter outlining the terms of the proposed purchase and sale has the important function of resolving potential conflicts or disagreements. When there is no written documentation of the proposed terms between the purchaser and the seller the possibilities for costly misunderstandings or misapprehensions of a party’s true intention are multiplied. This can lead to recriminations between the parties that ultimately kill the purchase and sale. Such misunderstandings or misapprehensions can be avoided by the parties jointly preparing a term sheet, memorandum or letter which spells out the terms of the proposed purchase and sale.
What other advantages does a term sheet, memorandum, or letter offer in a proposed agency purchase and sale?
A term sheet, memorandum or letter can provide a purchaser with the time to investigate the details and potential outcomes of a purchase. The time allowances and conditions contained in these documents create a space within which the purchaser can discover issues that can be resolved prior to entering into a binding contract. A seller will have an opportunity to explore and understand whether the purchase is in its best interests and is a viable deal.
When do parties typically prepare a term sheet, memorandum, or letter for a proposed agency purchase and sale?
These documents are usually utilized when the initial discussions have reached the level that more formal due diligence, exclusivity of negotiations and confidentiality become required, but before the drafting of a final proposed purchase and sale agreement.
Are term sheets, memorandum, or letters regarding a proposed agency purchase and sale agreement legally binding?
These documents are generally not considered to be binding contracts, but it never hurts to reemphasize that fact in the term sheet, memorandum, or letter. However, there is nothing that prohibits a term sheet, memorandum, or letter from explicitly including binding terms into their language, in areas such as: confidentiality agreements; levels of cooperation from the seller; agreements to perform due diligence; access to information; exclusivity for the buyer within a specified time-frame. Also, there is the possibility that parties drafting a term sheet, memorandum or letter without professional legal assistance can draft terms that unwittingly create a binding obligation that prejudices one party or the other.
The rule in Massachusetts is that expressions of “a present intention” contained in such term sheets, memorandum, or letters are not legally binding as contracts unless explicitly stated to be binding. If specific terms in such a term sheet, memorandum, or letters specify or clearly evidence that there was an intention to have a binding agreement, however, the courts can enforce such terms as binding upon the parties.
What are the typical terms contained in a term sheet, memorandum, or letter regarding a proposed agency purchase and sale?
These documents can have as many terms and conditions as the parties think are necessary or useful to move the proposed agency purchase and sale forward to a closing. Some of the specifications that may find their way into such agreements are:
- A description of the agency assets being sold and acquired. These assets may be specified in a general way or, in some cases, may be laboriously detailed depending upon the nature the transaction.
- The proposed purchase price or formula for arriving at the purchase price. This may also include specifications as to how the purchase price will be paid: cash, partial cash plus a promissory note, a fixed payment plus additional payments based upon retention of renewals; payments based upon retention of renewals only; or fixed payments over time. Of course, there are additional payment variations depending upon the circumstances of the parties.
- Retention or non-retention of existing employees of the agency being sold including, but not limited to, the owner of the agency, if appropriate.
- Specifications as to covenants not to compete from existing employees and producers of the agency being sold.
- Specification of existing agency agreements and terms regarding the approval of the insurance companies providing such agency agreements to continuing such agency agreements with the proposed purchaser.
- Specifications as to due diligence by the proposed purchaser, including, but not limited to, allowed time for due diligence and cooperation of the proposed seller.
- Specifications relating to the agency’s real estate obligations if the agency’s business location may be used by the purchaser for a fixed or indefinite period.
- Condition relating to the closing date of the purchase and sale.
- Understanding as to which party will bear the expense of having the initial purchase and sale agreement drafted.
- Specification of deadlines to perform proposed actions identified in the term sheet, memorandum, or letter, and consequences if the deadlines are not met by one party or the other.
- Condition regarding drop-dead date where the understandings and intentions of the parties terminate if a closing has not occurred by the date specified.
- Understanding as to the cooperation required between the parties during the course of the contemplated actions under the term sheet, memorandum or letter.
- Miscellaneous representations of expectations concerning the Seller’s and Buyer’s responsibilities during the transition of the business.
- Understanding as to post sale assistance, if any, by seller.
- Specifications as to continuing customary and usual business practices of the agency being sold during the course of the term sheet, memorandum or, letter.
- Specifications as to allocation of commissions and profit-sharing.
- Specifications as to maintaining insurance, including, but not limited to, errors and omission coverage as well as provisions relating to tail coverage.
- An understanding, which is often drafted as a binding condition when the term sheet, memorandum, or letter is drafted by an attorney, that the seller will not offer, accept or negotiate with any third-party regarding the sale of the agency while the term sheet, memorandum, or letter is in effect.
- Specifications of any particular warranties or representations other than reasonable commercial warranties relating to title, litigation, existing agreements, etc.
- Specification of covenants not to compete and non-solicitation agreements
The above list of what might be included in a term sheet, memorandum or letter is hardly exhaustive. Specific proposed purchase and sale agreements may have more or less specifications depending upon the size and complexity of the proposed acquisition.
Summary of checklist
In sum, the following is a general guideline of things to keep in mind when negotiating the purchase or a sale of an agency and documenting the proposed agreement.
- A term sheet, memorandum, or letter should be a straightforward outline of the parties’ intentions to enter into a final and binding contract;
- Unless clearly stated as otherwise, these documents are not considered to be binding contracts;
- They may contain both general and specific intentions, ultimately expected to become part of a binding deal;
- Some of these intentions can be designed to be binding upon the parties to protect each party’s interests;
- Any intention to create a binding term within these documents should be stated with explicit language;
- A breach of any binding term contained within these documents can create liability and lead to damages;
- Legal assistance is highly recommended in drafting these documents to avoid potential legal pitfalls and unintended liabilities.