Letter of intent, MOU, term sheet, heads of terms — and the parts that bind

Nothing turns on which of the four words appears at the top of the page. Memorandum of understanding is the usual term between public bodies, universities and non-profits; term sheet belongs to investment and licensing; heads of terms is the British phrasing in property and M&A; letter of intent is the general commercial default. A term sheet for a licensing agreement and heads of terms for a share sale are doing identical work. Courts read the clauses, not the heading.

One document doing two different jobs

The reason these documents cause trouble is that they are hybrids. The commercial section records what the parties currently intend — price, structure, timetable, conditions — and is written to be unenforceable, because neither side has finished diligence. Bolted to it is a short set of clauses that are meant to operate immediately and are as enforceable as anything in the final agreement.

Why "subject to contract" is not a magic phrase

In England the words carry a strong presumption that nobody is bound until formal documents are exchanged. That presumption is not absolute. In RTS Flexible Systems v Molkerei Alois Müller the UK Supreme Court held that parties who worked for months under an expired letter of intent, agreeing variations as they went, had by their conduct waived a clause saying no contract would take effect until counterparts were executed. They had a binding contract on terms nobody had signed.

Australian law runs the same analysis through the categories in Masters v Cameron: parties may intend to be bound at once with formal documents to follow, bound at once with performance conditional on execution, or not bound at all until execution. Which category you are in is a question of objective intention, and "subject to contract" is evidence towards the third rather than a guarantee of it.

United States practice has no equivalent term of art. New York courts instead distinguish a Type I preliminary agreement — complete on its terms and binding immediately, whatever formalities remain — from a Type II, which binds the parties only to negotiate the open points in good faith. The reasoning in Teachers Insurance and Annuity Association v Tribune turned on language: the letters were, as the court put it, replete with the terminology of binding contract.

How a non-binding document becomes binding anyway

Three routes account for most of it, and only the first involves anyone reading the disclaimer.

• Completeness. The document already contains everything a contract needs and refers to no further step. There is nothing left to agree, so a court has no reason to treat it as preliminary.
• Conduct. Work starts, money moves, staff are seconded, an order is placed. Performance is the strongest available evidence that the parties considered themselves bound, and it can override the words.
• Correspondence. Emails after signature that speak of the deal as done — "as agreed", "under our agreement" — are read alongside the document and can shift its character.

The extreme illustration is Pennzoil v Texaco, where a Texas jury valued an agreement in principle over Getty Oil shares — never reduced to a signed acquisition agreement — at $10.53 billion against the party that interfered with it. It is an outlier, and it is four decades old, but it is the reason transactional lawyers care about the wording of a two-page document nobody expects to enforce.

The commercial lesson is duller than the case law: do not begin performing until the definitive agreement is signed, and if you must begin, write down that you are doing so on the terms of the letter of intent and at your own risk. Where the deal is a supply relationship, that risk is concrete — see supply and manufacturing agreements for what the default sales rules do to a shipment made before terms are settled.

The duty to negotiate in good faith, where it exists

This is the point on which jurisdictions genuinely diverge, and where advice written for one country is actively misleading in another.

English law refuses to enforce an agreement to negotiate in good faith — it is regarded as too uncertain to police. What English law will enforce is a lock-out: a promise, for a stated period and supported by consideration, not to negotiate with anyone else. That is why the exclusivity clause, not the good-faith clause, does the work in a British transaction.

Delaware goes the other way. In SIGA Technologies v PharmAthene the parties agreed to negotiate a licence in accordance with a term sheet whose footer read "Non Binding Terms". The Delaware Supreme Court enforced the obligation to negotiate in good faith anyway, and awarded expectation damages — the value of the licence the parties would have reached — rather than wasted costs. A non-binding label on the terms did not make the promise about them non-binding.

Civil-law systems impose the duty without anyone agreeing to it. Article 1112 of the French Civil Code makes the conduct and breaking off of negotiations free but subject to the requirements of good faith, and that requirement cannot be contracted out of. The compensating limit is on damages: French law expressly excludes recovery for the profits expected from the contract that was never concluded.

Exclusivity is what you are actually giving up

Everything else in a letter of intent is reversible. The no-shop is not. For its duration the seller cannot solicit, entertain or continue any competing discussion, which means the buyer negotiates the definitive agreement against no alternative at all. Competitive tension is the seller's only real leverage, and the LOI is the document that removes it.

One more consequence, easy to miss: the exclusivity clause outlives the commercial terms. If negotiations collapse on day 20, the no-shop and the confidentiality obligation are still running. Check whether they terminate when the parties stop negotiating, or only when the stated period expires.

What an MOU between organisations should say instead

The genuinely non-binding memorandum — two universities agreeing to collaborate, two charities agreeing to share a programme — has a different failure mode. Nobody intends legal obligations, but people commit staff, budget and reputation on the strength of it. The useful clauses there are not about enforceability: who does what, who pays for what, how it ends, and what happens to anything created jointly.

Where the collaboration will actually run for years and share revenue, the MOU is the wrong instrument and a joint venture agreement or a partnership agreement is the right one. The choice between those two is not obvious — joint venture vs partnership sets out what each does to liability.

Before you sign one

The instinct to treat a letter of intent as a formality is the reason it goes wrong. It is a short contract with a long non-binding attachment, and the short part is the part that costs money. Read the binding half with the same care you would give the definitive agreement, because in the weeks before that agreement exists, it is the only agreement there is.