Posted: 11 Apr 2017 Last revised: 15 May 2017
Date Written: February 1, 2017
When does a deal begin? Does it begin when parties sign a non-binding term sheet? Or only when parties sign a formal contract? This Article uses mergers and acquisitions (M&A) deals to examine why and how parties use non-binding preliminary agreements. It provides the first modern, comprehensive account of how parties use these common, but rarely publicly disclosed, bargaining tools to build deal momentum and carry a deal forward.
In M&A deals, sophisticated parties enter into non-binding preliminary agreements, such as term sheets and letters of intent. Once parties sign non-binding agreements, however, parties behave as though bound—almost always follow up with a formal contract that closely tracks the early non-binding terms. Scholars and courts have long treated preliminary agreements as contract-like tools that need to be enforced. This Article develops an alternative theory of “deal momentum” to explain why parties use non-binding agreements. Non-binding agreements are not minor contracts—rather, they are signposts for when enough momentum has accumulated that a deal has become “sticky” and is likely to go forward. Although non-binding agreements are not contracts, they play an important role in facilitating complex contracting through their signaling, organizational, and formal functions.
This Article makes two contributions to the literature. First, using original interviews with deal lawyers, this Article provides a rich and layered account of how sophisticated parties use non-binding agreements in modern dealmaking. Parties almost never disclose non-binding agreements publicly, so interviews offer a rare glimpse into this common, but little-understood, deal practice. Second, it differentiates, for the first time, between the formal and substantive functions of agreement-making. By focusing exclusively on non-binding agreements’ contract-like qualities (their substantive functions), scholars have overlooked their formal functions. Non-binding preliminary agreements can nudge parties toward collaboration and signal seriousness, for example. Reframing preliminary agreements as signposts for deal momentum, rather than as minor contracts, has significant implications for contract theory, contract enforcement, and deal design. It suggests that the theoretical boundaries of the deal do not begin with preliminary agreements, that courts ought not to enforce those agreements, and that parties ought to use them—but as organizational tools, not as contracts.
Suggested Citation: Suggested Citation
Hwang, Cathy, Deal Momentum (February 1, 2017). UCLA Law Review, Vol. 65, Forthcoming; Stanford Public Law Working Paper No. 2947516. Available at SSRN: https://ssrn.com/abstract=2947516