Mergers and Acquisitions (M&A) are complex, high-stakes transactions involving significant strategic, legal, and financial considerations. At the heart of many successful M&A deals is a well-structured Term Sheet — the document that outlines the framework of the proposed transaction before the parties proceed to detailed due diligence and binding legal agreements.
In this article, we explore the role of Term Sheets in M&A transactions and key drafting considerations to protect your commercial interests.
What is a Term Sheet?
A Term Sheet (also known as Heads of Agreement, Memorandum of Understanding or Letters of Intent) is a preliminary, non-binding document that sets out the key commercial terms and intended structure of the deal.
The Term Sheet allows parties to clarify commercial intent before significant time and resources are spent on due diligence and drafting formal contracts. It also allows the parties to identify potential deal-breakers early in the process and demonstrate commitment to progressing negotiations, as well as establish binding obligations around confidentiality, exclusivity and costs.
The Term Sheet provides a foundation for negotiation by clarifying the parties’ commercial intentions at an early stage, before significant time and costs are expended on due diligence and drafting formal contracts. It enables the parties to identify any fundamental differences early, demonstrate commitment to progressing negotiations, and create a framework for binding obligations around confidentiality, exclusivity, and cost-sharing arrangements.
While Term Sheets are generally intended to be non-binding, certain clauses within it — such as confidentiality and exclusivity — are often legally binding. The enforceability of a Term Sheet under Australian law will ultimately depend on the language of the document and the objective intentions of the parties.
Seek Legal Advice Before Signing
A common pitfall is signing a Term Sheet without obtaining legal advice, under the misconception that it is "only preliminary" and can be renegotiated later. This is often driven by a desire to save costs or a misconception that the Term Sheet is only focused on the commercial aspects and can easily be changed because it is “non-binding.”
Although a Term Sheet is generally considered to be non-binding, it sets the expectations and forms the foundation of the deal between the parties. Once these expectations are established, it becomes challenging to deviate from the agreed framework. Any attempt to do so may be seen as backtracking from the original position, leading to a loss of valuable goodwill. Any subsequent negotiations and delays that arise from such departures are likely to significantly outweigh any initial cost savings and, in some instances, may place the transaction at risk.
Key Elements in a Term Sheet
A well-drafted M&A Term Sheet typically covers the following key elements:
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Transaction structure
The Term Sheet should clearly specify the structure of the transaction:
- Will the Buyer purchase shares of the operating company or acquire the underlying assets of the target business?
- Is it a full acquisition (100% ownership) or a partial acquisition involving minority or majority stakes?
- Are there any restructures or pre-completion steps required?
These distinctions have significant legal, tax, and regulatory implications.
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Purchase price
The Term Sheet should clearly state:
- the purchase price or formula to determine it (e.g. fixed, earn-outs, or adjusted post due diligence);
- the form of consideration (e.g. cash, shares);
- adjustment mechanisms (e.g. net debt, working capital adjustments);
- timing of payments, including any deferred consideration or escrow arrangements and any associated conditions.
The Buyer will not have performed due diligence at the time of signing the Term Sheet. Consequently, it is important that the Purchase Price is expressed in a way that allows flexibility, subject to satisfactory due diligence outcomes.
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Conditions Precedent
The Term Sheet should clearly state the key conditions that must be satisfied before completion of the transaction, such as satisfactory due diligence, obtaining regulatory, board or shareholder approvals, third-party consents and finance approval.
Buyers should carefully consider whether they require a material adverse change condition. This condition allows them to withdraw from the transaction if an unforeseen event arises. which negatively affects the value of the target business.
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Exclusivity
Exclusivity provisions grant the Buyer a period of time to complete due diligence and negotiate definitive agreements, during which the Seller agrees not to enter into discussions with other potential buyers and not to solicit or entertain competing offers. Exclusivity is typically one of the few binding provisions in a Term Sheet and can significantly enhance deal certainty for the Buyer.
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Confidentiality
Confidentiality provisions ensure that sensitive information exchanged during negotiations and due diligence is protected, and these provisions are often expressed to be legally binding. In M&A transactions, it is vital that confidentiality provisions are carefully drafted to ensure robust protection of commercially sensitive information. Often, the parties enter into a standalone confidentiality agreement prior to or concurrently with the Term Sheet.
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Binding nature
In order to provide flexibility and facilitate the negotiation process, with the exception of the exclusivity and confidentiality provisions, Term Sheets are typically not legally binding.
In M&A, it is common to state explicitly that the parties do not intend to be legally bound to proceed with the transaction until a formal sale agreement is executed. To ensure the parties have sufficient clarity as to their legal obligations, it is essential that the non-binding nature of the term sheet is specifically addressed.
This distinction is particularly critical for parties listed on the Australian Securities Exchange (ASX), who does not intend to disclose its entry into the term sheet to the market and must be cautious about inadvertently triggering disclosure obligations by entering into binding commitments prematurely.
At Align Law, our Corporate and Commercial team has extensive experience in advising public and private M&A transactions as well as drafting, negotiating, and reviewing Term Sheets across a wide range of industries.
If you would like further information or assistance in relation to Term Sheets, M&A transactions, or corporate advisory matters more broadly, please contact us at Align Law.