LOI and exclusivity in lower middle market M&A

The morning a buyer signs your LOI is the last morning you have leverage in the deal.

The next 60 to 120 days will be the buyer's process, not yours. Their diligence schedule. Their objections. Their attorneys' redlines. Every term you didn't lock down in the LOI becomes a renegotiation point at week 8 of exclusivity, when your client is tired, when the alternatives have moved on, and when "we'll discuss it later" becomes "we need a $1.2M working capital adjustment to close."

This piece is about what to lock down before the buyer signs. It's about why exclusivity period length is a leverage decision, not an administrative one. It's about the specific terms boutique sell side advisors keep getting wrong, and the language that closes the gap.

Why the LOI matters more than most sellers realize

The LOI is the negotiation document, not the executed agreement. The purchase agreement reflects what you negotiated in the LOI. The buyer's attorneys won't write you a more seller favorable purchase agreement than the LOI suggests they'd accept. Whatever you secure in the LOI is the high water mark for the deal.

This frame inverts how most sellers think about LOIs. They treat the LOI as a preliminary handshake and the purchase agreement as the real document. In practice, the LOI is the document where leverage is highest and exhaustion lowest. Sellers and their bankers should treat the LOI like the negotiation it is.

Three things change at LOI signing:

The LOI is where you make sure these shifts don't translate into a worse deal.

The terms boutique sellers consistently underweight

Most LOIs we see in lower middle market deals lock down purchase price, basic deal structure, and timing. They underweight the terms that actually move money at close.

Working capital pegs

The sentence "working capital adjustment based on a 12 month average of net working capital, calculated at close" sounds reasonable in an LOI. In practice, it's where leverage walks out the door.

Three precise terms to lock down:

• Reference period. "12 month average" is ambiguous. The trailing 12 months ending at the most recent month? At LOI signing? An average of monthly snapshots? Buyers will pick the period that minimizes the peg. Lock the specific period in the LOI.
• Components. Does net working capital include accrued bonuses? Deferred revenue? Capex accruals? Customer prepayments? Each line item is worth real dollars at close. Lock the components in the LOI, not at close.
• True up window. 60 days post close is standard. 90 days is buyer favorable. 30 days is seller favorable (forces the buyer to commit resources fast). Push for shorter.

Earnout structures

Earnouts in lower middle market deals carry deceptive optionality. The headline number ($10M base + $5M earnout = $15M deal) reads bigger than the reality.

Three things determine whether an earnout actually pays:

• Operational control. If the buyer takes operational control on day one and the earnout is based on EBITDA targets, the buyer can engineer the EBITDA. New corporate overhead allocations. Shifted cost centers. Deferred contracts. Watch for it.
• Measurement clarity. "EBITDA per the financial statements" is not enough. Define which add backs survive close. Define accounting policies that will apply (often the buyer's, which is when sellers get surprised).
• Cap structure. Earnouts above 30% of total consideration are buyer favored optionality. Earnouts at 10 to 20% with clear cap and floor structures actually pay.

Escrow and indemnity baskets

Escrow is the cash held back at close to cover potential buyer claims. Indemnity baskets are the threshold below which the buyer can't claim. Both are negotiable. Most sellers don't push hard enough on either.

Standard 2026 LMM ranges:

• Escrow: 5 to 15% of purchase price, 12 to 24 months
• Indemnity basket: $50K to $250K (deductible) or $25K to $100K (tipping)
• Cap on indemnity exposure: 10 to 20% of purchase price (no R&W insurance)

Push for:

• Lower escrow (3 to 8% if the seller is clean)
• Shorter escrow period (12 months over 24 if possible)
• Higher basket (less buyer ability to nickel and dime)
• Lower cap (less downside for seller)

R&W insurance changes this whole conversation. If the deal supports R&W (typically $20M+ deal value), the escrow and indemnity caps drop dramatically. Get an R&W quote before LOI signing. Decide based on the math.

Breakup fees

Most LMM LOIs have no breakup fee. They should.

A breakup fee is a payment from the buyer to the seller if the buyer walks away from the deal for reasons other than seller breach. In lower middle market, $50K to $250K is typical when negotiated.

Why it matters: a breakup fee aligns incentives. It says the buyer is serious. Buyers who refuse a breakup fee are signaling either they think they might walk, or they're not sophisticated enough to know they should pay one.

Push for a breakup fee in every LOI. The first response will be no. Negotiate. Worst case, you're at no breakup fee but you've signaled you take the deal seriously.

The exclusivity period decision

How long should exclusivity last? The answer most sellers give is "as long as the buyer needs." That's a buyer favored answer.

The seller favored answer is "as short as possible with specific milestones and a real termination right."

What's standard in 2026

Notice the trend: exclusivity has crept longer over the last 5 years. Buyers love it. Sellers should hate it.

Three terms to lock down on exclusivity length

• Specific date, not a duration. "Until July 15, 2026" is enforceable. "90 days from signing" is enforceable. "Until both parties agree the buyer is no longer in good faith" is not enforceable.
• Specific milestones with consequences. Diligence completion by week 6. Definitive agreement draft by week 8. Financing commitment by week 10. Each milestone missed gives the seller a unilateral termination right. Without specific milestones, exclusivity becomes "as long as the buyer wants."
• A shorter initial period with one explicit extension. 45 to 60 days primary, with one 30 day extension if requested by the buyer in writing 7 days before expiry, with a $50K extension fee. This forces the buyer to take the LOI seriously and extends only when they affirmatively pay for it.

What to never agree to

• "Auto extension if both parties are negotiating in good faith." Good faith is not a definable term. The buyer will always claim they're negotiating in good faith. Skip this language entirely.
• "Until close." Means the buyer has unlimited time. No.
• "Mutual termination only." Means the buyer can drag indefinitely and the seller can't pull out. No.
• Long extensions without trigger events. A 90 day extension with no requirement that the buyer have a financing commitment, signed definitive agreement, or other measurable progress is the buyer dictating the timeline.

How exclusivity creep compounds at the seller's expense

The mechanism is straightforward.

A typical LMM LOI signed at $42M includes 90 day exclusivity with auto extension to 150 days "if mutual diligence is ongoing."

Around day 60, the buyer's QofE produces add back disputes. Some legitimate, some leverage exploitation. The buyer requests a small purchase price adjustment.

Around day 90, the buyer requests an extension. They're in "mutual diligence." The seller, with no other live alternatives at this point, agrees.

Around day 120, the buyer raises a new concern (customer concentration, working capital pressure, supplier exposure) that wasn't in the LOI. They request an indemnity holdback or a further price adjustment.

Around day 150, definitive agreement is "close." The seller agrees to one more extension because the alternatives have moved on.

Closing day 180. The number on the wire is materially below the LOI signing number, sometimes by 5 to 15%. The indemnity holdback is also higher than the LOI suggested.

The LOI checklist boutique sell side advisors should run

Before signing exclusivity on any LOI, run through this checklist:

Where to read next

Once the LOI is signed and exclusivity begins, the deal mechanics shift. The seller's job becomes managing diligence pace, defending against retrade attempts, and getting to close on the original LOI terms. For the timeline that frames where the LOI lives in the broader sell side process, see The Sell Side M&A Process: 26 Week Timeline. For the data room structure that supports the diligence phase that follows LOI signing, see Sell Side Data Room Folder Structure. For pricing context on what the data room itself should cost across the process, see Virtual Data Room Pricing in 2026.