George Psarakis LL.M. (mult.), PgCert
(republished from Moneyreview.gr)
Summary: Having already dealt with confidentiality agreements in the context of an acquisition of a business (see here), in this article we will summarize some key points of interest with respect to the Memorandum of Understanding (hereinafter "MOU"). The MOU is the document where the parties, before starting the financial and legal due diligence of the business to be acquired, and before drawing up the definitive contract, record on the one hand the points where there is already consensus and on the other hand those on which the parties declare that they are continuing negotiations. It is described as a 'chameleon' document, which can sometimes be a simple 'gentleman's agreement' without any legal binding force, but at other times it may well bind the parties with serious consequences and sanctions in the event of non-compliance with what is agreed therein.
In this article we will comment on some interesting points of MOUs/LOI/HOTs. Following our discussion in a previous article on confidentiality agreements, the next, usually, step in an acquisition process is the drafting of an MOU. This agreement precedes the legal, financial and technical due diligence of the business and is an agreement in principle between the seller and the buyer on some of the points under negotiation and a record of the issues on which there is not yet consensus. Of course, MOUs are not only found in business acquisitions but also in all kinds of commercial agreements (see e.g. the recent announcement by Eurobank on 23/12/2021 regarding the signing of an MOU with Lamda Delelopment for the development of an office tower and the transfer of the Bank's headquarters to Elliniko). However, in this article we are exclusively concerned with acquisition deals. Below we will try to provide some answers to the most frequently asked questions in relation to the MOU.
1. What is the MOU?
A "MOU", an acronym for "Memorandum of Understanding", is a document signed by the prospective parties to the acquisition, constitutes a confirmation of their willingness to complete the deal and usually serves as a roadmap as to the final agreement to follow. It sets out the main elements of the agreement as defined at the particular point in time of the negotiations: e.g. the price, the method of payment, the timing of the final contract, confidentiality/exclusivity conditions and many others.
If we look at an acquisition as a marriage, then the MOU is the engagement, the signing of the contract (signing) is the proposal of marriage and the execution of it (closing) is the marriage ceremony itself. So the MOU is not the same as the definitive contract, but it is nevertheless a first formal commitment by the prospective acquirer that it is indeed interested and that it wishes to initiate the control and acquisition procedures. In the MOU the buyer, inter alia, declares that it wishes to buy and the seller that it wishes to sell. However, just as an engagement does not always result in a marriage, an MOU does not always result in the signing of a definitive contract. This is the case for a variety of reasons, such as lack of agreement on individual points, identification of serious defects in the business to be acquired following the audit, the existence of legal obstacles, financing problems, etc.
The completeness of an MOU may vary: it may contain only some of the main terms of the agreement, which may be set out in 2-3 pages, but it may also contain in considerable detail the terms agreed up to that point in a very detailed manner. The completeness of an MOU will also be one of the criteria for its legal binding nature: a complete MOU with agreement on all points essential to the parties may well constitute the final agreement itself and therefore any refusal by one of the parties to sign the final contract will have no practical significance as they will already be bound by the MOU.
2. What is the basic content of an MOU?
A MOU usually starts with a basic description of the intended transaction. This is followed by a statement of the "roadmap" for completing the deal. This includes drafting the MOU, conducting legal, tax, financial, etc. due diligence of the business and then the signing (closing) of the final contract. Then, a report is made on the individual terms on which agreement has already been reached and the points on which the parties have not yet agreed and negotiations are still to be held. This is probably followed by confidentiality and exclusivity clauses (no-shop, no-talk clauses), terms on the applicable law, which when we have a company based in Greece is usually Greek law, and on the determination of international jurisdiction.
3. What is the legal binding nature of a MOU? Can either party refuse to proceed with the signing of the final agreement, even though they have signed the MOU, and what are the consequences?
The answer to this question depends on the terms contained in the MOU. As mentioned in question 1, the more points of agreement that are reflected in the text of the MOU, the closer we are to a fully binding contract. For us to accept a binding agreement, unless it follows otherwise, the parties must have come to a clear and definite conclusion on all the issues that were brought to the table as necessary for there to be an agreement, i.e. not only on the essential parts of the agreement (e.g. price and shares sold) but also as regards the essential elements of the agreement, if they were considered by the parties to be necessary for the existence of the agreement (indeed, the very term of an MOU that the parties reserve the right to draw up the final agreement in writing in the future may be of no value due to the existence of Article 165 of the Civil Code which states that the agreement to draw up a document, unless otherwise evident, does not deprive the agreement of its binding character - typical in this respect is the case of the MOU No. 14837/1989 decision of the Athens Court of First Instance where, although the parties had agreed that a final agreement would be signed in the near future with the terms already agreed in the MOU, the court held that the MOU was fully binding without the need to wait for the signing of the final contract). Therefore, a mere record of issues, with individual agreements on some of them and statements of continuing negotiations on others, does not constitute a binding and enforceable contract. On the contrary, an agreement, even a few pages long, with a recorded consensus on almost all the issues raised and the commencement of its operation with the execution of its individual terms (e.g. phased payment of the price), may be considered as a fully binding contract even if it is titled "MOU" (or Preliminary Agreement/Letter of Intent/Head of Terms etc.).
Usually, the MOU also contains an express clause that the parties reserve until the final contract is signed ("subject to contract clause") or that the agreement is not binding on the parties ("non-binding clauses"). In these cases, the parties expressly state that the MOU is not binding on them. Therefore, it cannot be coercive for any party unless subsequent conduct of the parties comes to overturn what they had agreed. For example: an acquisition MOU is drawn up where specific transaction terms are agreed but the term "subject to contract" is reflected. A few days after signing, the parties themselves begin to execute individual terms of the agreement, e.g. payment of part of the sale price. In this case it can be argued that the subsequent conduct of the parties comes to override the 'subject to contract' clause (or the equivalent of the non-binding nature of the agreement). The result is that if the seller ultimately refuses to proceed with the sale of, for example, his shares, the buyer may be legally compelled to do so. This is because he cannot on the one hand accept payment of part of the price and on the other hand claim that the agreement is not binding.
The conclusion, therefore, is that the binding nature of an MOU is judged on the one hand by the completeness of the agreement and on the other hand by the subsequent conduct of the parties themselves.
4. If it is deemed that the MOU does not bind the parties to proceed to the signing of the final contract, what is its value/usefulness?
In most cases, a MOU will not bind the parties to enter into the final acquisition contract (e.g. sale of shares). Its practical value there consists of three levels: (a) first, it may contain fully binding confidentiality and exclusive dealing agreements which may also be secured by penalty clauses; (b) second, it has an auxiliary function in the negotiation in that it reflects the terms agreed up to that moment and contributes to the establishment of mutual trust by exerting a psychological influence on the parties; and (c) thirdly, it is likely to be able to establish the liability of the party that did not deal/negotiate in good faith to compensate the other party.
In the latter case, a possible breach by one of the parties of the principle of good faith negotiation is likely to give rise to liability for damages of the other party under Articles 197 and 198 of the Civil Code (see Article 197: "In negotiating a contract, the parties must mutually behave in good faith and in accordance with business customs"). However, such compensation will only include the costs incurred by the injured party in conducting the negotiations (e.g. payment of consultants, due-diligence, etc.) and not what it would gain/receive if the basic agreement was completed (which it can claim if the MOU is qualified as a fully executed and binding contract - see question 3 above). However, at the level of negotiations for the acquisition of a business, a claim of bad faith can hardly be substantiated. This is because the issues to be agreed are so numerous that there may well be a point of disagreement at any given moment that could lead to the transaction being called off. There will be exceptional cases where one of the parties, having reached agreement on all points and assured the other party that the transaction has been finalised, deliberately withdraws at the last minute before the contract is signed, etc. Therefore, it is usually only in cases where 'dishonest' conduct is actually committed, as a result of which the 'honest' party incurs costs, that the latter will be able to claim compensation for them (e.g. the opening of negotiations on the pretext of obtaining inside information and the transfer of business secrets).
5. Can "penalties" be agreed for disengagement from an MOU (break-up fees)?
Sometimes within an MOU the parties go on to include break-up/termination fees. These are clauses under which it is agreed that the obligated party must pay a predetermined amount if it leaves the negotiations/discussions without good cause. It is also possible to agree to forfeit a penalty to the seller in the event that the buyer decides not to proceed with the acquisition because of the unfavourable findings of the due diligence. In this case, the seller agrees to bear the cost of the due diligence if the due diligence does not prove to be correct and the acquisition becomes unprofitable. It can therefore be seen that break-up fees are agreed mainly (a) to cover the costs of monitoring, negotiation and loss of other opportunities on the part of the potential buyer and/or (b) to act as a disincentive to any attempt to withdraw from the negotiations. Indeed, the proposed acquirer of a business will engage a number of advisors (legal, technical, financial) to audit the target business and its assets. Moreover, while the necessary checks are being carried out, he will not be looking for other opportunities and, if a specific opportunity arises, he will not normally be prepared to reopen the control process and incur new costs when he is already doing so for the original intended transaction. In this way he will want to ensure that if the other party withdraws from the negotiations without good cause, he will have to compensate him at least for the costs he has incurred. As will be understood, however, the seller will not normally wish to enter into agreements of this kind for the simple reason that he will wish to retain his freedom of choice. Legally, such an agreement is classified as a penal clause (on the basis of the recent case law of the Supreme Court, which accepts that lump sum compensation agreements without the possibility of a counterclaim have the status of penal clauses - cf. AP 928/2019).
6. Can the seller negotiate with other potential buyers after signing a MOU?
The answer to this question depends on whether an exclusivity clause has been agreed or not. It is common content of a MOU to commit the prospective seller not to enter into discussions with other prospective buyers for the sale of the business for a certain period of time (no talk/no shop clause). This agreement is sometimes secured by a corresponding penalty clause of a high amount of money, which reflects not only the costs of the prospective buyer (costs of auditing, legal advisers, etc.) but also the opportunity cost of the loss of time in which to acquire another business. Of course, this clause is not in the seller's interest, and the seller wishes to be able to negotiate with more potential buyers in order to make it more likely that the sale price will be increased.
7. What usually follows the signing of a MOU?
After the drafting of a MOU, the parties usually proceed to the pre-contractual due diligence of the sold business. This stage is one of the most important in the acquisition process, because it is where the "good faith" of the business is judged. The company is checked mainly at the financial, legal, tax and technical levels. The results of the audit will largely determine the final outcome of the deal and, in particular, the main terms of the deal (e.g. price). A specific article on this stage will follow.