COMPANY LAW

LAW-320

DOCTRINE OF INDOOR
MANAGEMENT

Submitted by Shivansh Sood

Section L 1902
Roll no. A11
Registration 11917221
no.
Course BBA.LLB (Hons.)
Submitted To Mr. Sunil Kumar

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 Doctrine of 'Indoor Management' and exceptions to this rule

The doctrine of Indoor management, popularly known as the Turquand’s rule initially
arose some 150 years ago in the context of the doctrine of constructive notice. The
rule of Doctrine of Indoor Management is conflicting to that of the principle of
Constructive Notice. The latter seeks to protect the company against outsiders; the
former operates to protect outsiders against the company. The rule of constructive
notice is confined to the external position of the company and, therefore, it follows
that there is no notice as to how the company’s internal machinery is handled by its
officers. If the contract is consistent with the public document, the person contracting
will not be prejudiced by irregularities that may beset the indoor work of the
company.

The Doctrine of Indoor Management lays down that person dealing with a company
having satisfied themselves that the proposed transaction is not in its nature
inconsistent with the memorandum and articles, are not bound to inquire the
regularity of any internal proceeding. In other words, while persons contracting with a
company are presumed to know the provisions of the contents of the memorandum
and articles, they are entitled to assume that the provisions of the articles, they are
entitled to assume that the officers of the company have observed the provisions of
the articles. It is no part of duty of any outsider to see that the company carries out its
own internal regulations.

It is important to note that the notice of constructive notice can be invoked by the
company and it does not operate against the company. It operates against the person
who has failed to inquire but does not operate in his favour. But the doctrine of
“indoor management” can be invoked by the person dealing with the company and
cannot be invoked by the company.

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 Origin Of the Doctrine

The rule had its genesis in the case of Royal Bank v Turquand1. 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."

1 [1856] 6 E. & B. 327

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 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 Co2. 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.

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 favour 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."

2 1875 LR 7 HL 869.

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 Provisions Under The Indian Companies Act, 1956

The provision under the Indian Act which directly imbibes the Turquand rule is
section 290, which reads as under:

Section 290:- Validity of acts of directors:-Acts done by a person as a director shall

be valid, notwithstanding that it may afterwards be discovered that his appointment
was invalid by reason of any defect or disqualification or had terminated by virtue of
any provision contained in this Act or in the articles:
Provided that nothing in this section shall be deemed to give validity to acts done by a
director after his appointment has been shown to the company to be invalid or to have
terminated:
Another Provision which directly follows the above stated rule is section 81 of the
Indian Companies Act, 1956 which bears the heading ‘further issue of shares. Bona
fide allottees of shares are protected by the Doctrine of Indoor Management under s-
81. Illustrating upon the point the Punjab & Haryana High Court has avowed in the
case of Diwan Singh v Minerva Mills3 that
” The allottees of the shares were contracting in good faith with the Company and
they were entitled to assume that the acts of the Directors in making allotments of the
shares to them are within the scope of their powers conferred upon them by the
shareholders of the Company. They were not bound to enquire whether the acts of the
Directors which as in this case related to internal management had been properly and
regularly performed. Even when the Directors exceed their powers or infringe the
restrictions imposed upon them, the company may be bound for the outsider dealing
with the company is only required to see that the transactions are consistent with the
article. Strangers are justified in assuming that all matters of Indoor management have
been done regularly”.

3 [1959] 29 Comp Cas 263 (P&H)

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 Application of the Rule by the Indian Courts

The Turquand's rule has been approved and followed by Varadaraja lyengar J., in
Varkey Souriar v. Keraleeya Banking Co. Ltd4. In the following way:
" Coming to the alternative ground, it is no doubt true that where a company is
regulated by a memorandum and articles registered in some public office, persons
dealing with the company are bound to read the registered documents and to see that
the proposed dealing is not inconsistent therewith but they are not bound to do more.
They need not enquire into the regularity of the internal proceedings what -Lord
Hatherley called 'indoor management'. So, if there is a managing director and
authority in the articles for the directors to delegate their powers to him, a person
dealing with him may assume that it is within the ordinary duties of a managing
director. All he has to see is that the managing director might have power to do what
he purports to do. But the rule cannot apply where the question, as here, is not one as
to the scope of the power exercised by an apparent agent of the company, but is in
regard to the very existence of the agency."

In Lakshmi Ratan Cotton Mills Co. Ltd, v. J. K. Jute Mitts Co. Ltd5, the plaintiff
company sued the defendant company on a loan for Rs. 1,50,000. Among other things
the defendant company raised the plea that the transaction was not binding as no
resolution sanctioning the loan was passed by the board of directors. The court, after
referring to Turquand's case and other Indian cases, held:“If it is found that the
transaction of loan into which the creditor is entering is not barred by the charter of
the company or its articles of association, and could be entered into on behalf of the
company by the person negotiating it, then he is entitled to presume that all the
formalities required in connection therewith have been complied with. If the
transaction in question could be authorised by the passing of a resolution, such an act
is a mere formality. A bona fide creditor, in the absence of any suspicious
circumstances, is entitled to presume its existence. A transaction entered into by the
borrowing company under such circumstances cannot be defeated merely on the
ground that no such resolution was in fact passed. The passing of such a resolution is
a mere matter of indoor or internal management and its absence, under such

4 [1957] 27 Comp Cas 591, 594 ; AIR 1957 Ker 97,

5 AIR 1957 All 311

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circumstances, cannot be used to defeat the just claim of a bona fide creditor. A
creditor being an outsider or a third party and an innocent stranger is entitled to
proceed on the assumption of its existence ; and is not expected to know what
happens within the doors that are closed to him. Where the act is not ultra vires the
statute or the company such a creditor would be entitled to assume the apparent or
ostensible authority of the agent to be a real or genuine one. He could assume that
such a person had the power to represent the company, and if he in fact advanced the
money on such assumption, he would be protected by the doctrine of internal
management."

In case of Official Liquidator, Manasube & Co. (P.) Ltd. V. Commissioner of

police 6 the learned judge observed that the lenders to a company should acquaint
themselves with memorandum and articles but they cannot be expected to embark
upon an investigation as to legality, propriety and regularity of acts of directors.
The rule is based upon obvious reasons of convenience in business relations. Firstly,
the memorandum and articles of associations are public documents, open to public
inspection. Hence an outsider “is presumed to know the constitution of a company;
but not what may or may not have taken place within the doors that are closed to
him.” The wheels of commerce would not go round smoothly if persons dealing with
the company were compelled to investigate thoroughly “the internal machinery of a
company to see if something is not wrong.” People in business would be very shy in
dealing with such companies.

The rule is of great practical utility. It has been applied in a great variety of cases
involving rights and liabilities. It has been used to cover acts done on behalf of a
company by de facto directors who have never been appointed, or whose appointment
is defective, or who, having been regularly appointed, have exercised an authority
which could have been delegated to them under the company’s articles, but never has
been so delegated, or who have exercised an authority without proper quorum. Thus,
where the directors of company having the power to allot shares only with the
consent, something which he could do only with the approval of the board; where the

6 [1968]38 Comp. cas 884 (Mad)

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managing agents having the power to borrow with the approval of directors borrowed
without any such approval, the company was held bound.

Consequence of the Rule: Recent Decisions

The Indian Courts in certain recent judgments have further broadened the scope of the
Doctrine of indoor management. The object being the same i.e. to protect the third
party transacting with the Company in good faith and being unaware of the complex
internal management of the Company.

In Monark Enterprises v Kishan Tulpule and Ors7, the Company Board held :-
“That the validity of the impugned transaction was not affected even if no resolution
for entering into it was actually passed by the board of the company as the company
had entered into and adopted the transaction throughout and implemented it after
receiving consideration thereof In YKM Holdings Private Limited v Prayag T-Pac
Industries Limited and Others8

Even amalgamation of two companies is one limb of indoor management. Therefore,

notice contemplated under Section 394A of the Act is required to be given only at the
stage when application under Section 394, of the Act is made to the Court for
sanctioning the scheme and not any time prior thereto.

7 [1992] Vol.74 CC 89
8 Decided On: 20.12.2000

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 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’ can’t 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 India9, 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 Co10. 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 Kansseen11, 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.

But after the Hely-Hutchinson v Brayhead Ltd12, 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

9 [1927] 101 IC 558

10 [1888] 38 Ch. D. 156
11 [1946] 16 comp. Cas 186 ( HL)

12 [1968]38 comp.Cas 228m (CA)

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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 & co13,
the plaintiff accepted a transfer of a company’s 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 company’s
property.
Similarly, in the case of Haughton & co v. Nothard, Lowe & Wills Ltd14, 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 Consolidates15; here in this
case the plaintiff was the transferee of a share certificate issued under the seal of the
defendant’s company. The company’s 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

13 A.I.R. (1942) Oudh 417

14 [1927] 1 KB 246 (CA)
15 [1906] A.C. 439

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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 Co16. explains the meaning and effect of a “delegation clause”.
Here one G was director of the company. The company had managing agents of
which also G was a director. Articles authorised 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.17, 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 company’s article contained a clause providing that “the directors may delegate

16 AIR 1957 All 311

17 [1952] 1 All. ER 554

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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 company’s
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
authorised.

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 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.
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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 Dinshaw18 here the
plaintiff accepted a transfer of a company’s property from its accountant. Since such a
transaction is apparently beyond the scope of an accountant’s authority’ it was void.
Not even a ‘delegation clause’ in the articles could have validated it, unless he was, in
fact, authorized.

18 A.I.R. (1942) Oudh 417

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 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 party’s 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
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.

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