The Importance Of Confidentiality Agreements And Letters Of Intent

Author:Mr Gianfranco Pietrafesa
Profession:Cooper Rose & English LLP
 
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This article was previously published in the December 2002 issue of New Jersey Lawyer, the magazine

The first step in the purchase of a business is often the drafting of a confidentiality agreement and a letter of intent. Just how important are they?

This article deals with the first two documents that are often prepared when a buyer seeks to purchase a business from a seller. They are the confidentiality agreement and the letter of intent. The importance of these documents will be discussed in this article.

CONFIDENTIALITY AGREEMENTS

A confidentiality agreement is frequently the first document prepared in the course of acquiring a business. It protects a seller from a prospective buyer's misuse of the seller's confidential information and prevents a prospective buyer from hiring away the seller's key managers and employees.

An acquisition of a business is very often a significant financial undertaking for a buyer. As a result, a buyer usually seeks to review certain information concerning a seller's business, such as financial, customer and technical information, before making an offer to buy a business. A seller, however, considers such information confidential and proprietary and is reluctant to disclose it to a prospective buyer, especially a business competitor. The reluctance is understandable when one considers that the acquisition, for one reason or another, may fall through and a prospective buyer may use the seller's information to its advantage and to the disadvantage of the seller.

Thus, a prospective buyer will not make a proposal to buy the seller's business without the information, and a seller will not disclose the information without certain assurances that the buyer will not use the information improperly. Enter the confidentiality agreement, which provides a mechanism for the release of the seller's confidential and proprietary information to a prospective buyer while minimizing the risk that the buyer will misuse the information.

This article will deal with the two major items that should be addressed in a confidentiality agreement: 1) defining the confidential information covered by the agreement and 2) providing the prospective buyer with access to the seller's management and employees.

Confidential Information

The agreement should begin with an acknowledgement by the buyer that the information to be provided to it by the seller is confidential and proprietary and a statement that the buyer will maintain the confidentiality of the information in accordance with the agreement. Next, the agreement should define the term "confidential information," which typically includes such sensitive information as historical financial data, financial projections, pricing and profit margins, as well as technical information such as manufacturing methods.

Typically, the definition is broad enough to include all information that the seller discloses to the buyer. A definition may be as simple as the following:

The term "Confidential Information" means and includes any and all information concerning the Company that has been or may be provided to the Buyer by the Seller, the Company or the Company's Representatives or that is obtained from a review of Company documents or discussions with the Company's Representatives and also includes all notes, analyses, compilations, summaries and other materials prepared by the Buyer or its Representatives containing or based on any of the foregoing information.1, 2

The term "Representatives" should be defined to include "directors, officers, employees, agents, consultants, advisors and other representatives, including legal counsel, accountants and financial advisors."

The agreement then identifies who may have access to the confidential information and the extent of such use, as follows:

Buyer agrees that the Confidential Information will be kept confidential and will not be disclosed to any person except as permitted by the terms...

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