Non-binding Letter of Intent
Also written Non-binding Letter of Intent (LOI) · LOI · Non-binding LOI · Letter of Intent
The document a private equity fund gives a target after initial due diligence, proposing an investment amount, a valuation and a stake — none of which it is yet obliged to honour.
In plain language
Somewhere between "we like this company" and "here is the cheque" there has to be a piece of paper. The non-binding Letter of Intent is that paper.
After the fund has signed a non-disclosure agreement and completed initial due diligence, it writes to the target's management team setting out what it proposes: how much money, at what valuation, for what percentage of the company. The amount is usually expressed as a range rather than a specific value, because the fund has not yet seen the confidential information that would let it commit to a number.
Non-binding means exactly that. Neither side is contractually obliged to proceed. What the LOI buys is a shared basis for the negotiation that follows.
How it works
Chapter 9 places the LOI at the fourth step of the private equity deal pipeline, and the sequence is examinable in its own right:
| # | Step | What happens |
|---|---|---|
| 1 | Deal sourcing | Research, calls, intermediaries; the start-up pitches |
| 2 | Non-disclosure agreement | Signed so the fund's team can examine records |
| 3 | Initial due diligence | How the management is executing the plan it pitched |
| 4 | Investment proposal and non-binding LOI | Amount (a range), valuation, stake |
| 5 | Term Sheet and SOPT | Signed if the LOI is accepted; sets out binding and non-binding clauses. No investment has been made yet |
| 6 | Final due diligence | Financial, business, technological and operational, on confidential information |
| 7 | Final Investment Memorandum | Issued after investment committee approval, proposing a specific valuation; the start-up may still negotiate |
| 8 | Shareholders' Agreement and Share Subscription Agreement | The cheque is handed over, shares are allotted, and the investor's name appears on the capitalization table |
Two things follow from the ordering. The LOI is before access to confidential information — which is why the number is a range. Whether anything binding starts at step 5 is where the workbook disagrees with itself. Section 9.1.3.2 says the term sheet and SOPT lay down "the binding and non-binding clauses on both parties". Section 10.1.4 calls the non-binding LOI "also called the 'term sheet'" and says a term sheet "does not provide for any contractual rights whatsoever"; section 4.1.14 also says the term sheet is not binding. This page does not pick a side. See the Traps below.
The context is a funnel: a private equity firm typically analyses 40 to 50 investee companies before making one investment. Most deals die well before an LOI is written.
A worked example
A Category II AIF running a growth-capital strategy has spent six weeks on a warehousing and cold-chain company. Initial diligence is done; the confidential data room is not yet open.
The fund issues a non-binding LOI:
| Term | What the LOI says |
|---|---|
| Investment amount | Rs 120 crore to Rs 140 crore |
| Pre-money valuation | Rs 560 crore to Rs 600 crore |
| Stake sought | 17% to 20%, on a fully diluted basis |
| Instrument | Compulsorily convertible preference shares |
| Exclusivity | 90 days |
| Status | Non-binding |
The founders accept, and the parties sign a term sheet and a Summary of Principal Terms. Final due diligence then turns up Rs 34 crore of receivables from a single distributor that has not paid in 14 months and was not disclosed earlier.
Because the LOI was non-binding, the fund is free to reprice. The Final Investment Memorandum goes to the investment committee at Rs 118 crore for 21 per cent at a pre-money valuation of Rs 444 crore — and the founders, who may still negotiate at this stage, are choosing between that and restarting a process that took six months.
Had the fund written a specific Rs 140 crore rather than a range, the conversation would have started from a number it no longer believed.
Why NISM asks about it
Chapter 9 (Investment Strategies), section 9.1.3.2 (Private equity deal structure), which lists the deal pipeline. Expect a sequencing question — which document comes before which — and a question on why the LOI amount is given as a range. Be careful with any question on which document binds. Section 9.1.3.2 treats the term sheet and SOPT as a separate step with binding and non-binding clauses, while sections 10.1.4 and 4.1.14 say the term sheet is not binding, and 10.1.4 calls the LOI the term sheet. Read which chapter the question is drawn from.
Common exam traps
- Is the LOI the term sheet? The workbook gives two answers. Section 9.1.3.2 lists them as separate steps: the start-up signs the term sheet and SOPT only after accepting the LOI, and the term sheet "lays down the binding and non-binding clauses on both parties". Section 10.1.4 says the investment team presents "a non-binding Letter of Intent (LOI) also called the 'term sheet'", which "does not provide for any contractual rights whatsoever". Section 4.1.14 also says the term sheet "is not a legal agreement and is therefore not binding on both parties". Do not assume either reading is the only one. Match the question to the section it comes from. On both readings, all of this comes before any money moves.
- The amount is a range, deliberately. A question offering "a specific investment amount" as the LOI's content is testing this.
- Final due diligence comes after the term sheet, not before. Initial diligence is what precedes the LOI.
- The Final Investment Memorandum follows investment committee approval and proposes a specific valuation — and the target can still negotiate it.
- Nothing in steps 1 to 7 puts the investor on the capitalization table. That happens at step 8, on signing the Shareholders' Agreement and Share Subscription Agreement.
- Do not assume binding obligations start at the term sheet. That follows from section 9.1.3.2 (binding and non-binding clauses), but section 10.1.4 says a term sheet gives no contractual rights at all. The workbook's definitive agreements (section 10.3) are the documents it describes as binding without qualification.
Check yourself
1.The term sheet is entered into by:
- a)The manager with a potential investee company
- b)The sponsor with the investor
- c)The fund with the manager
- d)The distributor with the investor
Show the answer
Answer: (a) The manager with a potential investee company
The term sheet is presented by the investment team to the potential investee company. It is a non-binding Letter of Intent, also called the Summary of Principal Terms, setting out the proposed transaction, the investment amount (often a valuation range rather than a specified amount), the proposed post-acquisition capital structure, board seat, key investor rights and management terms, exclusivity period and conditions precedent.
Three facts to hold on to:
- It is non-binding on both parties and does not provide for any contractual rights whatsoever.
- It has a validity period, usually extendable by mutual consent.
- Despite being non-binding, it defines the modalities, avoiding vagueness and injecting precision, and establishes commitment from both sides through the exclusivity.
The fund and manager are bound by the Investment Management Agreement; the investor signs a Contribution Agreement. Neither is a term sheet.
Where this is taught
Free preparation for NISM Series XIX-DRelated terms
- Due diligenceA client's own investigation of a portfolio manager before appointing them — checking process, people and past performance against a benchmark, not just the headline return.
- Category II AIFThe residual AIF category: anything that is neither Category I nor Category III and takes no fund-level leverage beyond a narrow temporary carve-out — private equity, private debt and fund-of-funds.
- Term SheetThe non-binding document in which an AIF and an investee company set out the main terms of a proposed investment. Once signed, it leads to due diligence and then to the binding definitive agreements.
- Capitalization TableThe record of who owns how much of a company — every class of shares, each investor's stake and the employee option pool. An AIF's name goes on it when the shares are allotted.
- Down roundA financing round priced below the valuation of the previous round — the event that triggers anti-dilution protection and re-prices every earlier investor's conversion.
- Final Investment MemorandumThe memorandum a PE fund's deal team prepares once the investment committee gives final approval, proposing a specific valuation — which the start-up can still negotiate before final agreements are signed.
- Lead InvestorThe investor who sources a deal, does the diligence, commits their own capital and then assembles a syndicate of accredited investors to fund the rest — usually for a fee or a share of carry.
- Share Subscription AgreementThe main definitive agreement between an AIF and an investee company for a fresh issue of shares — setting the terms of the investment and the AIF's rights beyond an ordinary shareholder's.
- Preliminary Investment MemorandumA memorandum a fund's investment team may present to its Investment Committee, detailing a proposed investment and deal structure, to get authorisation to sign the term sheet.
- Exclusivity PeriodA term-sheet clause under which the investee company agrees not to negotiate with other potential investors while the AIF completes its due diligence and definitive agreements.