The Essential Role of Heads of Terms in Your Business Sale Strategy
An offer to buy your business can look attractive on paper. But the headline price is only one part of the deal.
How much will you receive at completion? How much is deferred? What assumptions has the buyer made about cash, debt and working capital? Will you need to remain in the business, and for how long? What happens if the buyer changes direction during due diligence?
Heads of Terms are where these questions begin to be answered.
They set out the main commercial points agreed between you and the preferred buyer before detailed due diligence and legal negotiations begin. They also often mark the point at which you agree to an exclusivity period and stop speaking to other potential buyers.
That makes them far more than an administrative step. The way Heads of Terms are negotiated can affect your eventual sale proceeds, your responsibilities after completion and how much leverage you retain during the rest of the transaction.
What Are Heads of Terms in a Business Sale?
Heads of Terms set out the main terms agreed in principle between the buyer and seller.
They may also be called:
- Heads of Agreement
- Letter of Intent
- Term Sheet
- Memorandum of Understanding
Heads of Terms does not complete the sale or transfer ownership of your company. Instead, they create the commercial framework for the next stage of the transaction.
You will normally agree Heads of Terms after the buyer has reviewed initial information, meetings have taken place and you have selected a preferred buyer.
Once signed, the buyer will usually begin detailed due diligence and the lawyers will start drafting the final Sale and Purchase Agreement.
For a wider overview of the process, read our Guide to Selling Your Business.
Why Heads of Terms Matter
Heads of Terms are often the point at which an attractive offer begins to take shape as a real transaction.
A buyer might offer £10 million for your company. That does not necessarily mean you will receive £10 million on completion.
The offer could include:
- £6 million paid at completion
- £2 million deferred for two years
- £2 million dependent on future performance
It may also be subject to adjustments for debt, cash and working capital.
The important question is not simply:
What is the offer?
It is:
What will I receive, when will I receive it and what must happen for the full amount to be paid?
Heads of Terms should provide much greater clarity on the transaction structure, purchase price, payment terms, valuation assumptions, due diligence, exclusivity, the seller’s future involvement and the proposed timetable.
A slightly lower offer with most of the consideration paid at completion may be stronger than a higher offer that depends on an uncertain earn-out.
Our article, How Are Business Sales Structured? Earn-Outs, Deferred Payments and Deal Types Explained, explores how different payment structures can affect risk, certainty and the amount you ultimately receive.
Are Heads of Terms Legally Binding?
Most Heads of Terms are described as being “subject to contract”. This generally means that the principal commercial terms are not intended to become legally binding until the final agreements are signed.
However, some provisions may be binding from the outset. These often include:
- Confidentiality
- Exclusivity
- Responsibility for costs
- Governing law
- Restrictions on announcements
The document should clearly state which sections are binding and which are not.
Even where the main terms are not legally binding, they still carry commercial weight. Once the parties have agreed a point in writing, reopening it later can damage trust and delay the sale.
Heads of Terms should therefore be reviewed by your M&A adviser and solicitor before you sign.
The Headline Price is Not the Whole Deal
Business owners naturally focus on the value placed on their company. However, two offers with the same headline price can lead to very different outcomes.
You need to understand how the buyer has reached the valuation and how the final amount payable to shareholders will be calculated.
Enterprise value and equity value
A buyer may offer an enterprise value for the business. This is not necessarily the same as the amount you will receive for your shares.
The final equity value may be affected by cash held by the company, bank borrowing, finance leases, tax liabilities, shareholder loans, working capital, property, surplus assets and intercompany balances.
The Heads of Terms should make the movement from enterprise value to equity value as clear as possible.
Cash, debt and working capital
Offers are often made on a “cash-free, debt-free” basis and subject to a normal level of working capital remaining in the business.
These phrases can sound straightforward, but disagreements frequently arise over what should be treated as cash, debt or working capital.
The buyer may regard items such as outstanding tax liabilities, deferred income, hire purchase agreements, unpaid bonuses, transaction costs and customer deposits as debt-like.
The Heads of Terms should explain how these items will be treated rather than leaving the definitions open until later.
Otherwise, an apparently strong offer can reduce significantly during due diligence or the completion accounts process.
What is your business worth?
For an initial indication of value, you can use our free Business Valuation Calculator.
An online calculation should be treated as a starting point. The eventual price will also depend on the quality of earnings, business risk, market demand and the strategic value of the company to individual buyers.
Payment Structures and Earn-Outs
The Heads of Terms should clearly explain how and when the purchase price will be paid.
Payment may include cash at completion, deferred consideration, an earn-out, loan notes, shares in the buyer, a retained minority shareholding or money held back against potential claims.
You should separate the guaranteed consideration from any amount that depends on future events.
Deferred consideration
Deferred consideration is a fixed amount paid after completion, often in instalments.
Although the amount may be agreed, there is still a risk that the buyer may be unable or unwilling to pay when the money becomes due.
Before agreeing to a substantial deferred payment, consider the buyer’s financial strength, whether security will be provided, whether interest will be paid and what happens if the buyer defaults or resells the company.
You should also understand whether warranty claims can be deducted from future payments.
Earn-outs
An earn-out makes part of the purchase price dependent on the company’s future performance.
It can help bridge a valuation gap, but it can also create uncertainty and conflict.
The seller may be expected to achieve targets after the buyer has taken control of the company. The buyer could then change the strategy, investment levels, cost base or management structure in ways that affect those targets.
The Heads of Terms should define the value of the earn-out, the performance target, the measurement period, the accounting policies that will be used and who will control key decisions.
They should also address how group costs and exceptional expenses will be treated, what information the seller will receive, what happens if the seller leaves and how disagreements will be resolved.
The simpler and more objective the earn-out, the easier it should be to understand and monitor.
Share Sale or Asset Sale?
The Heads of Terms should confirm the proposed structure of the transaction.
In a share sale, the buyer acquires the shares in the company and takes ownership of the business, including its assets, contracts, employees and liabilities.
In an asset sale, the buyer purchases selected parts of the business, which may include machinery, stock, intellectual property, customer contracts, property, employees and goodwill.
The structure can affect the legal process, tax position, transfer of contracts and the liabilities retained by the seller.
Read our guide to Share Sales vs Asset Sales in the UK for a fuller explanation.
Due Diligence and the Risk of Renegotiation
The buyer will usually make its offer subject to satisfactory due diligence. This gives them the opportunity to verify the financial, legal, commercial and operational information provided before the offer was made.
Due diligence is an important part of the process, but it can also create an opportunity for the buyer to reopen negotiations. If they uncover weaker financial performance, customer concentration, unclear contracts or unexpected liabilities, they may seek to reduce the price, increase the deferred element or request additional protections.
This is why preparation matters. The more complete, accurate and well-organised your information is, the less scope there is for surprises that could weaken your position.
Heads of Terms should also avoid giving the buyer an open-ended right to change the deal simply because they are no longer satisfied with the transaction. The main assumptions behind the offer should be clear from the outset.
Our Due Diligence Checklist explains the information buyers are likely to request and how you can prepare.
Conditions Attached to the Offer
Most offers are subject to certain conditions being met before the sale can complete. These may include buyer funding, board approval, regulatory clearance, the retention of key employees or the renewal of important contracts.
The key issue is whether those conditions are clear, realistic and within the control of the parties. A buyer that still needs funding, internal approval and support from several third parties may be less certain than its headline offer suggests.
Before selecting a preferred buyer, you should understand what still needs to happen, who has authority to approve the transaction and what could cause the deal to fall through.
A deliverable offer is often more valuable than a higher offer with a lower prospect of completion.
The Seller’s Role After Completion
Many buyers will want the owner to remain involved after completion, either for a short handover period or for longer where part of the price is linked to future
Your Heads of Terms should make clear what your involvement will look like after completion. Including the length of the commitment, the seller’s responsibilities, working arrangements and how leaving the business could affect deferred payments or an earn-out.
This should be considered as part of the overall deal, not as a separate employment issue. A transaction may look attractive financially, but it may not suit an owner who wants to step away quickly or retain more control over their future role.
Warranties, Indemnities and Restrictions
The detailed legal protections will be contained in the Sale and Purchase Agreement, but the Heads of Terms may set out some of the main principles.
Warranties and indemnities
As the seller, you will usually be asked to give warranties about the company and its affairs. They can cover areas such as accounts, tax, contracts, employees, assets, intellectual property, compliance and litigation.
You may also be asked to give an indemnity covering a specific known risk, which could require you to compensate the buyer if that risk results in a loss.
At Heads of Terms stage, the parties may begin to agree the overall cap on seller liability, the time limits for claims, the treatment of smaller claims and whether warranty and indemnity insurance will be used.
They may also consider whether claims can be deducted from deferred payments.
Restrictive covenants
The buyer may require you to agree not to compete with the company after completion.
Restrictions may cover joining or establishing a competing business, approaching customers, recruiting employees, soliciting suppliers or using confidential information.
These restrictions should protect the value acquired by the buyer without unnecessarily limiting your future plans.
Exclusivity: The Point Where Leverage Can Be Lost
Exclusivity is one of the most important provisions within Heads of Terms.
The buyer will often ask the seller to stop speaking to other interested parties while due diligence and legal negotiations take place.
This is understandable from the buyer’s perspective. It may be committing significant time and professional costs to the transaction.
However, exclusivity removes competitive tension.
Once other buyers have been turned away, your preferred buyer may feel it has more scope to renegotiate the price or terms.
You should therefore avoid granting exclusivity until:
- The main commercial terms have been agreed
- The buyer’s funding position is understood
- The required approvals are clear
- The buyer has demonstrated that it can proceed
- A realistic timetable has been established
The exclusivity period should be limited and linked to progress.
If the buyer misses agreed milestones or fails to provide evidence of funding, you should have the ability to end exclusivity and consider other options.
What to Do if Someone Offers to Buy Your Business
If you have received a direct or unexpected offer, use our free Assess an Approach to Buy Your Business tool. It provides a personalised assessment of the buyer, the offer and your own readiness to proceed.
You can also read What to Do if Someone Offers to Buy Your Business.
Who Drafts and Negotiates Heads of Terms?
The first draft may be prepared by the buyer, the buyer’s corporate finance adviser, the buyer’s solicitor, the seller’s M&A adviser or the seller’s solicitor.
A buyer’s first draft will naturally reflect the buyer’s priorities. It may include a long exclusivity period, broad due diligence conditions, unclear working capital assumptions, limited protection for deferred payments or buyer-friendly earn-out terms.
That does not necessarily mean the buyer is acting unfairly. It does mean the document should be reviewed and negotiated from your perspective, not simply accepted as drafted.
Your M&A adviser will typically focus on valuation, buyer credibility, payment structure, commercial terms, competitive tension and the deliverability of the offer.
Your solicitor will focus on legal protection, binding and non-binding provisions, liability, warranties, indemnities, restrictive covenants and enforceability.
Your accountant and tax adviser may also need to review the structure before it is agreed.
Our article on Business Brokers vs M&A Advisers explains the different types of support available.
What to Check Before Signing Heads of Terms Before signing
Our Exit Readiness Assessment provides an instant report highlighting how prepared your business is for sale and the areas that may need further attention.
Final Thoughts
Heads of Terms do not guarantee that a business sale will complete.
They do, however, establish the basis on which the rest of the transaction will be negotiated.
The document should give you a clear understanding of what the buyer is offering, how much you may receive at completion, which payments remain at risk and how the final price will be adjusted.
It should also clarify what the buyer still needs to approve, what you will be expected to do after completion and how long you will be prevented from speaking to other buyers.
The strongest outcome does not always come from accepting the highest headline offer. It comes from understanding the complete deal, testing its deliverability and protecting your position before exclusivity is granted.
At Entrepreneurs Hub, we help business owners assess offers, compare buyers, negotiate the commercial terms and manage the transaction through to completion.
If you have received an approach or are considering selling within the next few years, speak to our experienced M&A team for a confidential, no-pressure assessment of your position.
You can also visit our Tools for Business Owners to:
- Calculate an indicative value for your business
- Assess your readiness for a sale
- Evaluate an approach from a potential buyer
Alternatively, sign up for the Entrepreneurs Hub newsletter to receive practical business sale guidance, M&A market updates and new resources.
This article is for general information only and does not constitute legal, tax, accounting or financial advice. Professional advice should be obtained before negotiating or signing Heads of Terms.
FAQs – Heads of Terms in a Business Sale
What are Heads of Terms in a business sale?
Heads of Terms set out the main terms agreed in principle between the buyer and seller. They usually cover the proposed price, payment structure, valuation assumptions, due diligence, exclusivity and timetable before the detailed legal agreements are negotiated.
Although they do not normally complete the sale, they establish the commercial framework for the transaction.
Are Heads of Terms legally binding in the UK?
Heads of Terms are usually marked “subject to contract”, meaning most commercial provisions are not intended to be legally binding until the final sale agreement is signed.
However, clauses covering confidentiality, exclusivity, costs and governing law may be binding. The wording should therefore be reviewed by a corporate solicitor before signing.
When are Heads of Terms signed?
Heads of Terms are normally signed after the seller has selected a preferred buyer but before detailed due diligence and legal drafting begin.
They often coincide with the start of an exclusivity period, so the price, payment structure, conditions and buyer funding should be properly tested before the seller signs.
What should be included in Heads of Terms?
Heads of Terms should cover the transaction structure, purchase price, payment terms, cash and debt assumptions, working capital, earn-outs, due diligence, conditions, exclusivity and the seller’s role after completion.
They should also identify which provisions are legally binding and set out a clear timetable for progressing the transaction.
Can a buyer change its offer after Heads of Terms are signed?
A buyer may try to reduce or restructure its offer if due diligence identifies weaker performance, unexpected liabilities or information that was not previously disclosed.
Thorough preparation and clearly drafted Heads of Terms can reduce the opportunity for unnecessary renegotiation, although they cannot guarantee that the original offer will remain unchanged.
What is exclusivity in Heads of Terms?
Exclusivity prevents the seller from approaching or negotiating with other buyers for an agreed period while the preferred buyer completes due diligence.
It removes competitive tension, so it should only be granted once the main commercial terms, buyer funding and required approvals are clear. The period should also be limited and linked to progress deadlines.
How long should an exclusivity period last?
There is no standard exclusivity period because the appropriate length depends on the size and complexity of the transaction.
It should provide enough time for due diligence and legal work without allowing the buyer to delay indefinitely. Sellers should consider including milestones and the right to end exclusivity if the buyer fails to progress.
Who prepares Heads of Terms for a business sale?
Heads of Terms may be prepared by the buyer, an M&A adviser or one of the parties’ solicitors.
The seller’s M&A adviser will usually negotiate the valuation and commercial structure, while the solicitor reviews the legal effect, binding provisions and how the agreed points will be reflected in the final documentation.
Do I need a solicitor before signing Heads of Terms?
Yes. A corporate solicitor should review Heads of Terms before they are signed, particularly because confidentiality, exclusivity and costs provisions may be legally binding.
The solicitor should work alongside the seller’s M&A adviser, who can assess the valuation, payment structure, buyer credibility and wider commercial implications of the offer.
How long does it take to complete a sale after Heads of Terms?
A business sale will often take several months to complete after Heads of Terms are signed, although the timeframe varies considerably.
The speed will depend on the complexity of the company, the quality of its records, buyer funding, due diligence findings, regulatory requirements and the progress of legal negotiations.
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