Heads of terms: A simple (but complete) guide + template

Heads of terms set the groundwork for your agreements. They help identify key terms and conditions early on. This clarity reduces the chance of disputes later. By using heads of terms, you ensure all parties are on the same page from the start.

Whether you're a small business owner or part of a larger organisation, mastering this pre-contract tool is invaluable. It will simplify your contracting process and pave the way for successful business relationships. Let’s dive in and get started on creating effective heads of terms!

What are heads of terms?

Heads of terms outline the primary terms agreed upon by parties before entering into a more formal, binding contract. Also referred to as a "letter of intent" (when in letter format) or "memorandum of understanding," Heads of terms confirm the key terms discussed, often in high-value or complex transactions, joint ventures, and large-scale projects. These documents serve as a foundational framework, enabling parties to align on major points and minimise the need for revisiting critical details during the final contract phase.

Heads of terms act as a record of what’s been agreed and map out the next steps in the process. Docue's heads of terms template helps guide you through the process by prompting you to include the relevant points, ensuring nothing is overlooked. With this framework in place, the next step is to draft a formal, legally binding contract based on the points agreed upon in the heads of terms, making the transition to finalising the transaction more efficient.

When should heads of terms be used?

Understanding when to use heads of terms is crucial for any business involved in negotiations. This pre-contract agreement is particularly beneficial in situations that involve multiple parties or complex arrangements. Here are some common types of agreements where heads of terms are essential:

1. Commercial contracts

When entering into complex or high-stakes customer-supplier agreements, it is important to establish a clear understanding of each party's roles and responsibilities. Heads of terms help to outline the main points of agreement, setting a solid foundation for detailed negotiations that follow.

2. Business sales

In business sales, HoTs are invaluable for setting out the primary terms of the sale, such as the purchase price, payment structure, and any contingencies like due diligence or financing. This preliminary document provides clarity and alignment, helping to streamline the negotiation process. For a comprehensive guide, see our business sales guide.

3. Joint ventures

In a joint venture, two or more businesses collaborate to achieve a common goal while remaining independent. HoTs are essential in these scenarios as they clarify the contributions, objectives, and expectations of each party before they enter into a more formal agreement, such as a collaboration agreement.

4. Franchise agreements

Franchise agreements involve a franchisor granting rights to a franchisee to operate a business under its brand. Heads of terms can streamline this process by clearly defining key commercial terms, such as franchise fees, operational guidelines, and support provided by the franchisor, ensuring both parties are aligned before entering into a legally binding franchise agreement.

5. Forming partnerships and limited liability partnerships

For businesses considering the formation of a Limited Liability Partnership (LLP), drafting heads of terms is an important step for agreeing the terms of the partnership before the individuals embarked on their new venture as partners. This document outlines each partner's roles, contributions, and profit-sharing arrangements, establishing a clear framework for the LLP’s operations and governance.

6. Property transactions

In the UK, heads of terms are commonly used in commercial property transactions, setting out key points such as including financial terms, lease duration, and important dates. Note that Docue’s heads of terms template is designed solely for commercial and corporate purposes.

In each of these scenarios, using heads of terms not only assist in creating a mutual understanding but also enhances the efficiency of the contracting process. By addressing essential elements upfront, you can navigate negotiations quickly and minimise the risk of disputes later on.

What are the benefits of heads of terms?

While not essential, heads of terms are highly valuable for outlining key points in complex or high-stakes transactions. If the deal proceeds, a formal contract will eventually be drafted, but heads of terms help to establish a solid foundation from the outset.

Here are some of the key benefits of using heads of terms:

• Clarity from the start: heads of terms ensure all parties share a clear understanding of the agreement, reducing the likelihood of misunderstandings. This sets the stage for the parties' to swiftly draft and sign the formal contract to govern the transaction/project. By agreeing to these terms upfront, heads of terms will avoid rehashing old points, as the parties can refer back to the original framework to guide the drafting of the formal contract and speed up signing.

• Cost and time-efficient: by establishing the core terms early on, heads of terms can speed up the negotiation process, saving time and legal costs, this prevents delays in finalising the deal.

• Reduced risk: setting expectations upfront helps minimise the risk of last-minute renegotiations or unexpected changes. While heads of terms are not legally binding by default, they can include specific clauses (e.g. confidentiality or exclusivity) that are legally binding if both parties agree. This flexibility allows each party to proceed with confidence, protecting their own interests while working toward a mutually beneficial agreement.

What should be included in heads of terms?

The content of a heads of terms agreement can vary based on the nature of the transaction, but here are some key elements that are often included:

• Contracting parties: Clearly identify who is involved, including contact details for each party.

• Core terms: Outline the core points that will be the bedrock of the agreement, including what each party will do and the overall goals of the deal.

• Price and payment terms: Detail the price, payment structure, and any key timelines for payments (if applicable). In the case of future partnerships or joint ventures, this section can address how finances, such as capital or profits will be allocated between the parties, specifying each party's share and the distribution method.

• Timeline and target dates: Provide target dates for critical milestones or completion, setting expectations for the transaction or project pace.

• Confidentiality: Include confidentiality clauses to protect information shared during negotiations, if applicable.

• Exclusivity: If applicable, specify any exclusivity arrangements, such as a period during which the parties agree not to negotiate with others or enter into similar agreements. This ensures both parties are committed to the deal during the negotiation phase.

• Special Terms: Highlight any specific terms or conditions that are unique to the deal and agreement to ensure there are no surprises later on.

For more information about what should be included in heads of terms, read our legal expert's top tips for drafting heads of terms.

Other common FAQs

Are heads of terms legally binding?

The legal status of heads of terms varies. As standard, heads of terms are not intended to be legally binding, however, they can be legally binding, non-binding, or partially binding, depending on the parties’ agreement. Often heads of terms will include the phrase "Subject to Contract," indicating they are not legally binding, but parties may choose to make certain sections legally enforceable, such as confidentiality obligations, exclusivity clauses or non-poaching of staff restrictions.

Even if they aren’t binding, heads of terms set the groundwork for the formal contract, streamlining negotiations and reducing misunderstandings.

Are heads of terms confidential?

By default, heads of terms are not confidential. However, if the parties involved want to protect sensitive information, they can include confidentiality provisions within the document. These clauses can be legally binding, ensuring that both parties keep each other's confidential information, as well as the details of the deal, private. If confidentiality is a concern, it’s important to clearly outline these provisions in the heads of terms to avoid any misunderstandings down the line.

What comes after heads of terms?

Once the heads of terms have been agreed upon, the next step is to draft a formal, legally binding contract. This contract will outline the detailed terms and obligations that both parties must adhere to, governing the project or transaction, built on the framework set out in the heads of terms.

Depending on the nature of your agreement, here are some common contracts that may follow:

• Services Agreement: this is a supplier-customer contract that defines the terms for the provision of services, covering everything from scope and deliverables to timelines and payment terms.

• Supply of Goods and Services Agreement: this agreement governs the supply of both goods and services, specifying terms such as delivery schedules, specifications and payment structures.

• Share Purchase Agreement: this is a contract used for the purchase and sale of shares in a company, outlining the price, payment terms, and other conditions of the sale.

• Asset Purchase Agreement: this agreement outlines the purchase of specific assets of a business, such as equipment, intellectual property, or goodwill, rather than shares.

• Collaboration Agreement: where parties are planning on embarking on a joint venture or collaboration, this contract that formalises the terms of collaboration between two or more parties, often used in joint ventures or partnerships.

• Franchise Agreement: this agreement sets out the terms under which one party (the franchisor) allows another party (the franchisee) to operate a business under the franchisor’s brand and business model.

Each of these agreements will build upon the framework established in the heads of terms, detailing the legal obligations that bind both parties and ensuring a clear path forward for the relationship.

You can find out more about heads of terms by reading these FAQs answered by our legal experts.

Final thoughts

Heads of terms are an excellent way to lay the foundation for complex or high stakes transactions. They help the parties to agree on the crucial points, and ensure that everyone is on the same page before diving into detailed negotiations. While not always legally binding, they can significantly streamline the contract process, making the path to a final agreement much smoother.

For the best results, keep your heads of terms clear, concise, and use Docue's heads of terms template if you want to create, sign and store your heads of terms in minutes. This will help ensure a smoother negotiation and avoid potential misunderstandings later on.

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