Internal Management is quite essential for the success of a company. A company involves many stakeholders such as directors, shareholders, and third parties. It is necessary to have corporate laws to determine the relationship between the third parties and companies and protect the various stakeholders of the company. One such doctrine is called the doctrine of indoor management which protects the third parties from the irregularities happening within the company for which a prudent man could have no knowledge. This is a well established rule and is famously known as the Turquand’s Rule. The Turquand’s Rule has gained statutory recognition in Section 9 (1) of the European Communities Act, 1972, and Section 20(7) of the Companies Act, 2013. There are two doctrines that form the fundamentals of corporate laws to protect the stakeholders which are discussed in detail as follows:
The doctrine of Constructive Notice
Articles and memorandum are the heart and soul of the company. These documents are then registered with the register of companies. After such registration, these documents are made available to the public and can be accessed by paying a nominal fee. The implication behind this section is any person who wishes to deal with the company should have knowledge about the company. Even if a person does not read these documents it is assumed that the parties which contract with the firm has full knowledge. So under this doctrine no parties can make the company liable for any contracts which are ultra vires of the articles and memorandum of association and cannot make the company liable even if the parties acted in good faith. This doctrine protects the company from frivolous claims of third parties.
Doctrine of Indoor Management
The doctrine of Indoor Management is an age old principle that protects the third parties who enter into a contract with the company. The doctrine of Indoor management is based on the principle that the third parties can only be aware of the company’s memorandum of association and the articles of association and cannot be aware of the irregular activities which happen in the organisation. Such Irregular activities cannot absolve the liability of the company towards a third party and thus protects the interest of the third party. The doctrine of Constructive Notice protects the company from the liability of third parties. However the doctrine of indoor management is one of the most important doctrines in corporate law to prevent the abuse of invocation of Doctrine of Constructive notice.
This Doctrine can be claimed by any person who deals with the company provided if the following are established.
- There should be a contractual or legally enforceable relationship with the company
- The person who is claiming under this principle shouldn’t have foreseen any such irregularities nor should have had any such knowledge of the same.
- It should also be established that the person is well aware of the article and memorandum of association
The doctrine protects the third party because it is not the duty of the third parties to enquire about the regularity of the operations and it is presumed under the law that the parties have no knowledge about the internal management of the company.
Origin of the doctrine of indoor management
This rule traces its origin in the case of Royal Bank v. Turquand[i]where the company’s articles of association and memorandum provide to borrow bonds only when authorised by passing a special resolution in the general meeting. 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 the current account without the authority of any such resolution. The company, however, failed to repay the money and the question arose whether the company can be held liable for the debt without following the due procedure prescribed in the memorandum of association.
The court held that the bond issued by Turquand is binding since the petitioners as an ordinary prudent person can assume that the decision to raise money through bond was authorised by the special resolution of the company and due procedures have been followed.
In the case of Freeman and Lockyer v. Buckhurst Park Properties Ltd[ii]the defendant company dealt with the purchase and sale of land. The company was founded by two directors who in turn was authorised to nominate one director each to form the board of directors of the company. As per the articles of association the board has to nominate a person by itself for the position of Managing Director which the company failed to. As a result, one of the directors without any authority assumed the position of managing director and appointed the plaintiff company for architectural and surveying services. On completion of the work the fees due to the plaintiff company were denied due to the omission to appoint a managing director. The court relied on the decision of Royal British Bank v. Turquand and held that the defendant company was liable to pay the plaintiff firm for their services as they cannot make to suffer because of the irregularity which took place in the management of the company.
Inthe case ofVarkey Souriar v. Keraleeya Banking Co. Ltd.[iii] It was held that a person dealing with the company need not enquire about the internal proceedings of the company in furtherance of an obligation put on them through a public document or otherwise. All is expected from them is to ensure that the person transacting the business has the authority to do so.
Exceptions to Doctrine of Indoor Management
The doctrine cannot be applied in absolute and is subject to exceptions. The exception to the doctrine of Indoor Management are
1) Knowledge of Irregularity
A party who has knowledge of the irregularity cannot claim this doctrine because this doctrine presumes that a party would have not been aware of the internal irregularities of the company. In the case of Howard V Patent Ivory Manufacturing Company[iv] (1888) 38 Ch D 156, the Articles of the company empowered the directors to borrow up to 1,000 pounds, and the directors could borrow more if the consent was given in the general meeting. The directors borrowed 3500 pounds by issuing debentures without the resolution. The court held that the company was liable only to the extent of 1000 pounds and since the directors did not pass the resolution they could not claim the protection under the doctrine of Indoor Management.
2) Suspicion of Irregularity
The doctrine cannot be applied to a case that gives a suspicion of irregularity and it calls for the party to enquire about the same. The doctrine only protects the party from the internal irregularities but however when there arises suspicion of authority to enter contracts it is the duty of the party to exercise due diligence before entering into contractual relationships with the company.
In the case of Anand Bihari Lal v. Dinshaw & Co.[v] the plaintiff bought a property from the defendant through their accountant without enquiring whether the accountant had power of attorney or not. The accountant had acted beyond the scope of its authority and since the plaintiff did not exercise due diligence and since the plaintiff did not act in a prudent manner the court held the transfer to be void.
This doctrine cannot be applied in cases involving forgery because the well established doctrine can be applied only in cases of irregularities. Cases involving forgery is void ab initio since the contract was not entered with proper consent. In the famous case of Ruben v. Great Fingall Consolidates[vi]the company secretary forged the signatures of the directors of the company in a share transfer and the court nullified the transfer of shares since the company cannot be held liable in cases of proven forgery or fraud under the Turquand’s rule.
4) No knowledge about the Article of Association
A person should be well aware of the articles and memorandum which are the key documents of the company. A person who did not read the articles cannot make a claim under this doctrine. The doctrine of indoor management is based on the principle of estoppels and therefore cannot be invoked in favor of a person who has not consulted the company’s memorandum and articles. No one can rely and act upon something of which he was in fact completely ignorant.
The main objective to frame laws is to solve disputes but however a lawmaker cannot be so farsighted to frame laws that could solve all disputes. Due to rapid changes happening around the world invites complexities and new disputes could arise for which the law laid down by lawmakers could be inconsistent. Due to this reason the judges in the case of Royal British Bank v. Turquand filled the gap by invoking the doctrine of indoor management which protects the third parties from liability due to the internal irregularities happening within the organisation for which one could have no knowledge. Doctrine of indoor management and doctrine of constructive notice is mutually exclusive which needs to applied with utmost diligence in line with the facts of the case. This Doctrine of indoor management is an important foundation to corporate law which protects the misuse of the doctrine of constructive notice.
[i] 6 E. & B. 327
[ii] 2 QB 480
[iii]AIR 1957 KER 97
[iv](1888) 38 Ch D 156
[v](1946) 48 BOMLR 293
[vi] 1 AC 439
- What is Indoor Management rule?
- What are the exceptions to doctrine of indoor management?