By Sudipta Bhowmick, KIIT School of Law, Bhubaneswar.

“When there are persons conducting the affairs of the company in a manner which appears to be perfectly consonant with the articles of association, those so dealing with them externally are not to be affected by irregularities which may take place in the internal management of the company.”[1]  Lord Hatherly 

For the incorporation of a company, Memorandum of Association[2] and Articles of Association[3] are two most important documents. While, the memorandum of a company is the  constitution/charter of a company, on the other hand, the articles of association enumerate claim the internal rules of the company under which it will be governed. Section 399[4] of the Companies Act, 2013 provides that the memorandum and articles when registered with  Registrar of Companies ‘become public documents’ and then they can be inspected by anyone on payment of a nominal fee. Therefore, any person who contemplates entering into a contract with the company shall be presumed to know the powers of the company and the extent to which they have been delegated to the directors. In other words, every person dealing with the company is presumed to have read these documents and understood them in their true perspective. This is known as the Doctrine of Constructive Notice. The rule of constructive notice extends not merely to Memorandum and Articles but also to all such documents as are required to be registered with the Registrar of Companies. There is however no constructive notice of documents which are filed with the Registrar of Companies for the sake of record only.

Effect of the Doctrine of Constructive Notice:

The ‘Doctrine of Constructive Notice’ is more or less an imaginary doctrine. It does not take notice of the realities of business life. People know a company through its officers and not through its documents. The courts in India do not seem to have taken it seriously though. The Madras High Court, for the first time, held the validity and scope of the rule of constructive liability in Kotla Venkataswamy v. Rammurthy[5]. The dispute in this case pivots around the valid execution of mortgage bond as per Article 15[6] the company’s articles of association so as to make the company liable. The Court held that the plaintiff, notwithstanding acted in good faith, could not claim under this deed. The Court further observed that if the plaintiff should have discovered that a deed such as she entered into, required execution by three specified officers of the company and she would have refrained herself  from accepting a deed inadequately signed.

Origin of the New Doctrine:

The doctrine of Indoor management, popularly known as the Turquand’s[7] rule initially arose some 150 years ago in the context of the doctrine of constructive notice. The rule of Doctrine of Indoor Management is at odds with that of the principle of Constructive Notice. The latter protects the company against outsiders; the former protects outsiders against the company.

The Doctrine of Indoor Management lays down that persons, contemplating to deal with a company having satisfied themselves, are not bound to inquire the regularity of any internal proceeding of the proposed transaction, if it is inconsistent with the memorandum and articles. 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 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.

Application of Rule by the Indian Courts:

The provision under the Indian Act which directly imbibes the Turquand rule is section 176.[8] Another Provision which directly follows the above stated rule is section 62 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 Section 62. The Punjab & Haryana High Court has avowed in the case of Diwan Singh v. Minerva Mills[9] that “strangers are justified in assuming that all matters of Indoor management have been done regularly”. Varadaraja lyengar J., in Varkey Souriar v. Keraleeya Banking Co. Ltd[10] has observed that “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’. In Lakshmi Ratan Cotton Mills Co. Ltd, v. J. K. Jute Mitts Co. Ltd[11], the defendant company’s contention was 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 rule, held that “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.”

Conclusion: Exceptions to this rule

The rule of doctrine of indoor management is however subject to certain exceptions. In other words, relief on the ground of ‘indoor management’ cannot be claimed by an outsider dealing with the company in the following circumstances:

  1. Knowledge of Irregularity: – The rule does not protect any person who has actual or even an implied notice of the lack of the authority of the person acting on behalf of the company. 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[12], 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.
  2. Forgery: – The rule of indoor management does not extend to transactions involving forgery or otherwise void or illegal ab initio. In case of forgery, it is not there free consent but there is no consent at all. Since there is no consent at all, there is no transaction. Thus, where the secretary of the company forged signatures of two of the directors under articles on the share certificate and issued certificate without authority, the applicants were refused registration as members of the company. The certificate was held to be a nullity and the holder of the certificate was not allowed to take advantage under the doctrine of Indoor Management.[13]
  3. Representation through Articles: – The exception deals with the most controversial and highly confusing aspect of the “Turquand Rule”. In Lakshmi Ratan Lal Cotton Mills v J.K. Jute Mills Co[14] case it is held that “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.”
  4. Negligence: – This doctrine , in no way, rewards those who behave negligently. Thus, the act of an officer of a company is one which would ordinarily be beyond the power of such an officer, the person dealing with him must make proper enquiries and satisfy himself as to the officer’s authority. In the case of Anand Behari Lal v Dinshaw[15] where a transfer of a company’s property from its accountant was accepted by the plaintiff. 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.

[1] Mahony v. East Holyford Mining Co, (1875) LR 7 HL 869

[2] Sec. 2(56) of Indian Companies Act, 2013 says “memorandum” means the memorandum of association of a company as originally framed or as altered from time to time in pursuance of any previous company law or of this Act.

[3] Sec. 2(5) of Indian Companies act, 2013 says “articles” means the articles of association of a company as originally framed or as altered from time to time or applied in pursuance of any previous company law or of this Act.

[4] Sec. 399 of Indian Companies Act, 2013 deals with inspection, production and evidence of documents kept be Registrar.

[5] AIR 1934 Mad 579

[6] The Company’s Articles of Association provides that all deeds, cheques, certificates and other instruments shall be signed by the Managing director, the Secretary and the working Director on behalf of the Company, and shall be considered valid. In the instant case, the plaintiff accepted a deed of mortgage executed by the secretary and a working director only.

[7] (1856) 6 E. & B. 327

[8] No act done by a person as a director shall be deemed to be invalid, notwithstanding that it was subsequently noticed 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 of the company: provided that nothing in this section shall be deemed to give validity to any act done by the director after his appointment has been noticed by the company to be invalid or to have terminated.

[9] (1959) 29 Comp Cas 263 (P&H)

[10] (1957) 27 Comp Cas 591, 594

[11] AIR 1957 All 311

[12] [1927] 101 IC 558

[13] [1906] A.C. 439

[14] Supra 11.

[15] Supra 13.