In this article, Anshika Sharma, pursuing Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata discusses the doctrine of indoor management

Introduction

The ‘Doctrine of Indoor Management’ which is famously known as the ‘Turquand’s Rule’ is an old established principle which came to be recognized 150 years ago in the context of ‘Doctrine of Constructive Notice’. The Doctrine of Indoor Management is an exception to the Doctrine of Constructive Notice. The doctrine of Constructive Notice seeks to protect the company from the outsider whereas the Doctrine of Indoor Management seeks to protect the outsider from the company.

This doctrine emphasizes on the concept that an outsider whose actions are in good faith and has entered into a transaction with a company can have a presumption that there are no irregularities internally and all the procedural requirements have been complied with by the company. This is the protection which is provided by the Doctrine of Indoor Management. Though it is necessary for the outsider to be well versed with the Memorandum and Articles of Association of the company in order to seek remedy for the same. The government authorities are also within the purview of this doctrine.

Origin

The Doctrine of Indoor Management has originated from an English case called Royal British Bank v. Turquand [1].  Hence, the alternative name to this doctrine is the ‘Turquand Rule’. In this case, the directors of the company had been authorized by the Articles to borrow on bonds that sum of money as they should from time to time by passing a special resolution in a General Meeting of the company. A bond under the seal of the company which was signed by the secretary and the two directors were given to the plaintiff to draw on the current account without the authority of any resolution. Turquand sought to bind the company’s action on the basis of such bond. Thus, the main question of law in this matter was whether the company can be held liable for that bond. The court, in this case, held that the bond was binding on the company as Turquand was entitled to presume that the resolution of the company has been passed in the general meeting.

The Memorandum and Articles of Associations are Public documents and hence can be inspected by the public. But whatever is happening internally in the company is not known to the public. An outsider is oblivious to the internal procedures of the company and hence the outsiders are entitled to presume that all the internal procedures are catered by the company.

Position under the Indian Companies Act, 1956

The Doctrine of Indoor management can also be traced in the Indian Companies Act, 1956 under Section 290, which is explained as follows:

Validity of acts of Directors

Acts done by a person as the director shall/can be valid notwithstanding that later it may be discovered that his appointment was invalid due to any disqualification or defect or was terminated by any provision of the Act or the Articles. Provided that nothing in the section shall give validity to any of the acts done by a director after his appointment has been shown to the company to be invalid or terminated.

Judicial Interpretation of Doctrine of Indoor Management

The Judicial interpretation of the Doctrine of Indoor Management is viewed in light of the purpose of this doctrine. Business is a field which demands the protection of all parties under a contractual relationship. This doctrine of Indoor Management is apparently for protection of the outsiders dealing with the company but additionally, it’s more important purpose is to promote the investments in the business sector in order to strike a balance between the business and the economy.

In the case of Dey v. Pullinger Engg Co.[2]  Justice Bray had rightly pointed out that the wheel of commerce would not go smoothly if outsiders dealing with companies were forced to conduct an investigation of the internal procedure and machinery of the company to see if something is not wrong.

Additionally, Lord Simonds in the case of Morris v. Kanssen[3] Stated that the people in the business world would be shy in entering into transactions with companies if they were to check into the depth of the internal workings of the company.

An Investor only has a tendency to invest in companies if they are secured in all aspects. If the Investors are not secured, then the companies will lack investments which overall will negatively impact the economy. Thus, the protection given to the investors under this doctrine is a pertinent step towards promotion of trade and commerce.

Exceptions to the Doctrine of Indoor Management

The Doctrine of Indoor Management is more than a century old. The companies in today’s time have come to occupy the centric position in economic and social life in the modern communities, it is important to widen the scope of this doctrine, else it stands narrow and in complete favour of the outsiders to the company and brings a lot of risk to the Companies. Eventually, in the modern time, the Doctrine of Indoor Management has been subjected to various exceptions which are as follows:

Knowledge of Irregularity

When an outsider who is entering into a transaction with a company has constructive or actual notice of the irregularity in relation to the internal management of the company, then He/she cannot seek remedy under the doctrine of Indoor Management. There can be some cases, where the outsider is himself/herself a part of the internal procedure.  

For example, in the case of T.R. Pratt(Bombay) Ltd. v. E.D. Sassoon & Co. Ltd.[4]  Company A had lent money to Company B for mortgaging its assets. The procedure for the same which was laid down in the Articles for such nature of transactions were not complied with. The Directors of both the companies were the same. It was held by the Court that the lender was aware of such an irregularity and hence the transaction was not binding.

Another Example of the same is, X and Y are two directors of a company. A transfer of shares in the company had been approved by both X and Y.  X was not validly appointed and Y was disqualified by reason of being the transferee itself. These material facts were known to the Transferor of the shares; Hence the transfer of shares was not binding and stood ineffective.

Forgery

It is pertinent to note that the Doctrine of Indoor Management does not apply in cases where an outsider relies on a document which is forged in the name of the company.   A company can never be held liable for the forgeries committed by its officers.

For example, In the case of Ruben v. Great Fingall Ltd.[5] The Plaintiff was a transferee of the share certificate issued under the seal of the defendant company. The certificate was issued by the Company’s secretary who has forged the signature of the two directors of the company and had affixed the seal of the Company. The plaintiff, in this case, had contended that whether the signature was forged or genuine comes under the purview of the internal management of the company, therefore the company shall be held liable for the same, But it was held by the court that the doctrine of Indoor Management has never extended to cover a forgery. Lord Loreburn had interpreted that an outsider dealing with companies are not bound to inquire into their indoor management and will not be affected by any irregularities of which they are unaware of.

Negligence

Where an outsider entering into a transaction with a company could discover the irregularities in the management of the company if he/she would have made proper inquiries, then he/she cannot seek remedy under the doctrine of Indoor Management. The remedy under this doctrine is also not available where the circumstances and situations surrounding the contract are so suspicious that it invites inquiry, and the outsider of the company does not make any efficient inquiry for the same.

For example, in the case of Anand Bihari Lal v. Dinshaw & Co.[6] The Plaintiff had accepted a transfer of a company’s property from the accountant of the company.  It was held by the court that the transfer is void in nature as such a transaction was beyond the scope of the accountant’s authority. It was the duty of the plaintiff to check the power of attorney that was executed in favour of the accountant by the company.

Acts that are beyond the scope of apparent authority

Acts done by an officer of a company which are beyond the scope of its apparent authority will not make the company liable for any of the defaults caused by the officer. In such a case, the outsider cannot seek any remedy under the doctrine of Indoor Management simply because Articles did not delegate the power to the officer to do such acts. The outsider can only sue the company under the doctrine of Indoor Management if the officer had the delegated power to act on those grounds.

For example, in the case of Kreditbank Cassel v. Schenkers Ltd.[7], the branch manager of the company had endorsed a few bills of exchange in the name of the company in favour of a payee to whom he was personally indebted. The Company did not give him any authority to do so. It was held by the court that the company was not bound. Additionally, it was also stated that if the officer of the company commits fraud under his apparent authority on behalf of the company, then the company will be held liable for the act of fraud committed by the officer.

The same can be observed in Sri Krishna v. Mondal Bros. & Co.[8]  The manager of the company had the apparent authority under the Memorandum and Articles of Associations of the company to borrow money. The manager borrowed money on a hundi but did not place the same in the strong box of the company. It was held by the court that the company was bound to acknowledge the hundi, As the creditor had a bona fide claim for recovering the money on the grounds of fraudulent acts done by the officer of the company.

Representation through Articles

This exception is the most confusing and highly controversial aspect of the Turquand Rule.  Articles of Association generally contain a clause of “power of delegation.” For example, in the case of Lakshmi Ratan Cotton Mills v. J.K.  Jute Mills Co.[9] One B was the Director of the company. The company comprised of managing agents of which B was also a Director. The Articles of Association authorized the directors to borrow money and also empowered them to delegate this power to one or more of them.  B borrowed a sum of money from the plaintiff. Further, the Company refused to be bound by the loan on the ground that there was no resolution passed directing to delegate the power to borrow given to B. Yet it was held in the case that the company was bound by the loan as the Articles of Association had authorized the director to borrow money and delegate the power for the same.

Conclusion

The doctrine of Indoor Management which is a century old concept has been knitted in accordance to the needs of the modern time. This doctrine is solely for protecting the interests and the rights of the third party who enter into transactions with the company in good faith and to whom the company stands indebted.  This rule mainly emphasis on the fact that outsiders entering into transactions with a public company are not bound to conduct a proper enquiry into the company’s internal procedures and processes and additionally will not be affected by any of the irregularities in the internal processes which they are unaware of. The Turquand rule has subsequently been applied in many Indian cases for protecting the interest of the third parties against the companies. In due course of time, for the correct application of this doctrine, several exceptions have emerged to serve the purpose of the doctrine in the modern era like forgery, negligence, knowledge of irregularity, acts done beyond the scope of the apparent authority, etc which strikes a balance in providing reasonable protection to both, the outsiders to the company and the company.

References: 

[1] : Royal British Bank V. Turquand, (1856) 119 E.R 886.

[2]:  Dey v. Pullinger Engg Co. (1921) 1 KB 77.

[3]: Morris v. Kanssen (1946) 1 ALL ER 586,592.

[4]: T.R. Pratt(Bombay) Ltd. Vs. E.D. Sassoon & Co. Ltd. (1936) 6 Comp. Cas. 90.

[5]: Ruben vs. Great Fingall Ltd,(1906).

[6]: Anand Bihari Lal Vs. Dinshaw & Co. A.I.R. (1942) Oudh 417.

[7]:  Kreditbank Cassel V. Schenkers Ltd. (1927) 1 KB 826.

[8]: Sri Krishna V. Mondal Bros. & Co. AIR 1967 Cal 75.

[9]: Lakshmi Ratan Cotton Mills v. J.K.  Jute Mills Co. AIR 1957 ALL 311.