DOCTRINE OF INDOOR MANAGEMENT INTRODUCTION Doctrine of Indoor Management also known as Turquands rule states the Any outsider

dealing with the company is entitled to presume that internal requirements prescribed in memorandum and articles have been properly observed. The basic objective of this doctrine is to protect the third party transacting with the Company in good faith and being unaware of the complex internal management of the Company. There are certain exceptions where the outsider cannot claim relief in name of the doctrine of Indoor Management. They are as follows: Where the outsider has knowledge of Irregularity Suspicion of Irregularity Forgery Representation through Articles Acts outside apparent authority The gist of the rule is that persons dealing with limited liability companies are not bound to enquire into their indoor management and will not be affected by irregularities of which they had no notice.

REVIEW OF THE TOPIC According to DOCTRINE OF INDOOR MANAGEMENT persons dealing with the company are entitled to presume that internal requirements prescribed in memorandum and articles have been properly observed. A transaction has two aspects, namely, substantive and procedural. An outsider dealing with the company can only find out the substantive aspect by reading the memorandum and articles. Even though he may find out the procedural aspect, he cannot find out whether the procedure has been followed or not. For example: A company may have borrowing powers by passing a resolution according to its memorandum and articles. An outsider can only found out the borrowing powers of the company. But he cannot find out whether the resolution has in fact been passed or not. The outsiders dealing with the company are presumed to have read and understood the memorandum and articles and to see that the proposed dealing is not inconsistent therewith, but they are not bound to do more; they need not inquire into the regularity of the internal proceedings as required by the memorandum and articles. They can presume that all is being done regularly.

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ORIGIN OF THE DOCTRINE The rule had its genesis in the case of Royal Bank v Turquand. In this case the Directors of the Company were authorized by the articles to borrow on bonds such sums of money as should from time to time by a special resolution of the Company in a general meeting, be authorized to be borrowed. A bond under the seal of the company, signed by two directors and the secretary was given by the Directors to the plaintiff to secure the drawings on current account without the authority of any such resolution. Then Turquand sought to bind the Company on the basis of that bond. Thus the question arose whether the company was liable on that bond. The Court of Exchequer Chamber overruled all objections and held that the bond was binding on the company as Turquand was entitled to assume that the resolution of the Company in general meeting had been passed. The relevant portion of the judgment of Jervis C. J. reads: "The deed allows the directors to borrow on bond such sum or sums of money as shall from time to time, by a resolution passed at a general meeting of the company, be authorized to be borrowed and the replication shows a resolution passed at a general meeting, authorizing the directors to borrow on bond such sums for such periods and at such rates of interest as they might deem expedient, in accordance with the deed of settlement and Act of Parliament; but the resolution does not define the amount to be borrowed. That seems to me enough......We may now take for granted that the dealings with these companies are not like dealings with other partnerships, and the parties dealing with them are bound to read the statute and the deed of settlement. But they are not bound to do more. And the party here on reading the deed of settlement, would find, not a prohibition from borrowing but a permission to do so on certain conditions. Finding that the authority might be made complete by a resolution, he would have a right to infer the fact of a resolution authorizing that which on the face of the document appear to be legitimately done." FURTHER EMBELLISHMENT OF THE RULE The House of Lords further endeavored to explicate the Turquand Rule in the case of Mahony v. East Holyford Mining Co. The case is an excellent example of Court drawing out qualifications to the rule. In this case the company's bank made payments based on a formal copy of a resolution of the board authorizing payments of cheques signed by any two of three named "directors" and countersigned by the named "secretary". The copy was itself signed by the secretary. It came out subsequently that neither the directors nor the secretary had ever been formally appointed. According to the articles, the directors were to be nominated by the subscribers to the memorandum and the cheques were to be signed in such manner as the board might determine.

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It was held by the House of Lords that since the bank had received formal notice in the ordinary way of the board's decision, it was not bound to enquire further. The Turquand's rule has also obtained statutory recognition in Section 9(1) of the European Communities Act, 1972, which reads. " 9. Companies.--(1) In favor of a person dealing with a company in good faith, any transaction decided on by the directors shall be deemed to be one which it is within the capacity of the company to enter into, and the power of the directors to bind the company shall be deemed to be free of any limitation under the memorandum or articles of association ; and a party to a transaction so decided on shall not be bound to enquire as to the capacity of the company to enter into it or as to any such limitation on the powers of the directors, and shall be presumed to have acted in good faith unless the contrary is proved." EXCEPTIONS TO THE RULE The rule of doctrine of indoor management is however subject to certain exceptions. In other words, relief on the ground of indoor management cant be claimed by an outsider dealing with the company in the following circumstances: 1. Where the outsider has knowledge of Irregularity 2. Suspicion of Irregularity 3. Forgery 4. Representation through Articles 5. Acts outside apparent authority 1. Knowledge of Irregularity: - The first and the most obvious restriction is that the rule has no application where the party affected by an irregularity had actual notice of it. Knowledge of an irregularity may arise from the fact that the person contracting was himself a party to the inside procedure. As in Devi Ditta Mal v The Standard Bank of India, where a transfer of shares was approved by two directors, one of whom within the knowledge of the transferor was disqualified by reason of being the transfer himself and the other was never validly appointed, the transfer was held to be ineffective. Similarly in Howard v. Patent Ivory Manufacturing Co. where the directors could not defend the issue of debentures to themselves because they should have known that the extent to which they were lending money to the company required the assent of the general meeting which they had not obtained. Likewise, in Morris v Kansseen , a director could not defend an allotment of shares to him as he participated in the meeting, which made the allotment. His appointment as a director also fell through because none of the directors appointed him was validly in office.
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But after the Hely-Hutchinson v Brayhead Ltd., according to which the mere fact that a person is a director does not mean that he shall be deemed to have knowledge of the irregularities practiced by other directors. A newly appointed director does not mean that he shall be deemed

to have knowledge of the irregularities practiced by the other directors. A newly appointed director entered into contracts of indemnity and guarantee with the company through a director whom the company had knowingly allowed to hold himself out as having the authority to enter into such transaction, although in fact he had no such authority. The company was held liable. 2. Suspicion of Irregularity: - The protection of the Turquand Rule is also not available where the circumstances surrounding the contract are suspicious and therefore invite inquiry. Suspicion should arise, for example, from the fact that an officer is purporting to act in matter, which is apparently outside the scope of his authority. Where, for example, as in the case of Anand Bihari Lal v. Dinshaw & co., the plaintiff accepted a transfer of a companys property from its accountant, the transfer was held void. The plaintiff could not have supposed, in absence of a power of attorney, that the accountant had authority to effect transfer of the companys property. Similarly, in the case of Haughton & co v. Nothard, Lowe & Wills Ltd., where a person holding directorship in two companies agreed to apply the money of one company in payment of the debt to other, the court said that it was something so unusual that the plaintiff were put upon inquiry to ascertain whether the persons making the contract had any authority in fact to make it. Any other rule would place limited companies without any sufficient reasons for so doing, at the mercy of any servant or agent who should purport to contract on their behalf. 3. Forgery: - Forgery may in circumstances exclude the Turquand Rule. The only clear illustration is found in the Ruben v Great Fingall Consolidates; here in this case the plaintiff was the transferee of a share certificate issued under the seal of the defendants company. The companys secretary, who had affixed the seal of the company and forged the signature of the two directors, issued the certificate. The plaintiff contended that whether the signature were genuine or forged was apart of the internal management, and therefore, the company should be estopped from denying genuineness of the document. But, it was held, that the rule has never been extended to cover such a complete forgery. Lord Loreburn said: It is quite true that persons dealing with limited liability companies are not bound to enquire into their indoor management and will not be affected by irregularities of which they have no notice. But, this doctrine which is well established, applies to irregularities, which otherwise might affect a genuine transaction. It cannot apply to Forgery. 4. Representation through Articles: - The exception deals with the most controversial and highly confusing aspect of the Turquand Rule. Articles of association generally contain what is called power of delegation. Lakshmi Ratan Lal Cotton Mills v J.K. Jute Mills Co. explains the meaning and effect of a delegation clause.

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Here one G was director of the company. The company had managing agents of which also G was a director. Articles authorized directors to borrow money and also empowered them to delegate this power to any or more of them. G borrowed a sum of money from the plaintiffs. The company refused to be bound by the loan on the ground that there was no resolution of the board delegating the powers to borrow to G. Yet the company was held bound by the loans. Even supposing that there was no actual resolution authorizing G to enter into the transaction the plaintiff could assume that a power which could have been delegated under the articles must have been actually conferred. The actual delegation being a matter of internal management, the plaintiff was not bound to enter into that. Thus the effect of a delegation clause is that a person who contracts with an individual director of a company, knowing that the board has power to delegate its authority to such an individual, may assume that the power of delegation has been exercised. The question of knowledge of Articles came up in the case of Rama Corporation v Proved Tin and General Investment Co, here; one T was the active director of the defendant company. He, purporting to act on behalf of his company, entered into a contract with the plaintiff company under which he took a cheque from the plaintiffs. The companys article contained a clause providing that the directors may delegate any of their powers, other than the power to borrow and make calls to committees, consisting of such members of their body as they think fit. The board had not in fact delegated any of their powers to T and the plaintiffs had not inspected the defendants articles and, therefore, did not know of the existence of power to delegate. It was held that the defendant company was not bound by the agreement. Slade J, was of the opinion that knowledge of articles was essential. A person who at the time of entering into a contract with a company has no knowledge of the companys articles of association, cannot rely on those articles as conferring ostensible or apparent authority on the agent of the company with whom he dealt. He could have relied on the power of delegation only if he knew that it existed and had acted on the belief that it must have been duly exercised. Knowledge of articles is considered essential because in the opinion of Slade J; the rule of indoor management is based upon the principle of estoppel. Articles of association contain a representation that a particular officer can be invested with certain of the powers of the company. An outsider, with knowledge of articles, finds that an officer is openly exercising an authority of that kind. He, therefore, contracts with the officer. The company is estoppel from alleging that the officer was not in fact authorized. This view that knowledge of the contents of articles is essential to create an estopped against the company has been subjected to great criticism. One point is that everybody is deemed to have constructive notice of the articles. But Slade J brushed aside this suggestion stating constructive notice to be a negative one. It operates against the outsider who has not inquired. It cannot be used against interests of the company. The principle point of criticism, however, is that even if

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the directors had the power to delegate their authority. They would not yet be able to know whether the director had actually delegated their authority. Moreover, the company can make a representation of authority even apart from its articles. The company may have held out an officer as possessing an authority. A person believes upon that representation and contract with him. The company shall naturally be estopped from denying that authority of that officer for dealing on its behalf, irrespective of what the articles provide. Articles would be relevant only if they had contained a restriction on the apparent authority of the officer contained. 5. Acts outside apparent authority: - Lastly, if he act of an officer of a company is one which would ordinarily be beyond the power of such an officer, the plaintiff cannot claim the protection of the Turquand rule simply because under the articles power to do the act could have been delegated to him. In such a case the plaintiff cannot sue the company unless the power has, in fact, been delegated to the officer with whom he dealt. A clear illustration is Anand Behari Lal v Dinshaw here the plaintiff accepted a transfer of a companys property from its accountant. Since such a transaction is apparently beyond the scope of an accountants authority it was void. Not even a delegation clause in the articles could have validated it, unless he was, in fact, authorized. CONCLUSION The case of Royal British Bank v Turquand , refined the basic Common law of Agency to articulate the Doctrine of Indoor Management. The rule was enunciated by the Court to mitigate the rigors of the Constructive Notice Doctrine. Its importance arises in situations in which the third partys dealings are with some officer or agent other than the Board. The rule protects the interest of the third party who transacts with the Company in good faith and to whom the Company is indebted. The rule enunciated in the decision is often referred to as "Turquand's rule" and "indoor management rule". The gist of the rule is that persons dealing with limited liability companies are not bound to enquire into their indoor management and will not be affected by irregularities of which they had no notice The rule enunciated in Turquand has been applied in many cases subsequently and generally in order to protect the interests of the party transacting with the Directors of the Company. Applying the rule, now it can not be argued that a person having dealings with a Company is deemed to have notice of who the true Directors are, and this being shown by public documents i.e. the registers of the directors required to be maintained by the Company and the and the notices of changes. With the due course of time several exceptions have also emerged out of the rule like Forgery, negligence, third party having knowledge of irregularity etc. If we analyze the cases it is revealed that the Turquand rule did not operate in a completely unrestricted manner. Firstly, it is inherent in the rule that if the transaction in question could not in the circumstances have been validly entered into by the company, then the third party could not enforce it. Secondly, the rule only protected 'outsiders', that is persons dealing 'externally' with the company; directors, obviously, were the very people who would be expected to know if internal procedures had been duly

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followed. Thirdly, actual notice of the failure to comply fully with internal procedures precluded reliance upon the rule. Fourthly, an outsider could not rely upon Turquand's Case where the nature of the transaction was suspicious; for example, where the company's borrowing powers were exercised for purposes which were wholly unconnected with the company's business and of no benefit to the company. SOURCES Paul L Davies, Gower's Principles of modern Company law http://www.law.uvic.ca/mgillen/315/documents/Ch20-ultravires_000.pdf Cowan de Groot Properties Ltd v. Eagle Trust plc [1991] BCLC 1045 Indian Companies Act, 1956.

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