In India, Companies Act regulates the corporations. As you know a company is a type of corporation which take public money either in the way of capital or borrowing to achieve their corporate goals. When an outsider deal with the company they should be aware about the provisions of the rules and regulations made there under the act.
There are two important doctrines which tends to protect the company against outsiders and outsiders against the company, doctrine of constructive notice and doctrine of indoor management.
The doctrine of Constructive Notice seeks to defend the corporation from strangers. The Doctrine of Indoor Management is an exception to the Doctrine of Constructive Notice. The Doctrine of Indoor Management also aims to protect outsiders from the cheating of the corporation.
Doctrine of constructive notice and Doctrine of indoor management
As per the doctrine of constructive notice, the third-party cannot say that they did not have any notification of the Company rules or code of conducts if they are a party to the Memorandum of Association and the Article of Association. It is a general conception that a prudent person must have undergone the lines of a memorandum of association and the article of the association before entering into an agreement with the company. Thus, the doctrine of constructive notice is limited to the external position of the company.
However, the doctrine of indoor management focuses on the principle that an outsider whose activities are in bona-fide manner and has entered into any contract with a company and then it is an obvious assumption by the outsiders that there were no misdeeds or wrongdoings going within the company and all the technical requirements were fulfilled by the company.
Origin of the Doctrine of Indoor Management
This doctrine derived from an English case named as Royal British Bank v. Turquand. The doctrine of indoor management is also known by the name as Turquand Rule. The facts of the case are that the directors of the company borrowed certain money from the creditor. As per the article of association of the company, money can be borrowed by directors but there certain conditions to follow before borrowing.
One condition was that the money to be borrowed on bond and second condition was that the resolution of borrowing passed in the general meeting of the company. However, the Company authorised a bond worth around 2000 pounds to the creditor. The bond was the undertaking of the company by its directors and secretary for the repayment of the amount. But when the creditor asked for the repayment of his amount, it was alleged by the shareholders that there is no such resolution is passed by the company and so the company not bound to make any payment. When the matter went to the court, it was held that the company is authorised to make the payment.
The court further held that the company was authorized to register the bond as the creditor had no knowledge of internal bills or resolutions passed in the company. Therefore, it is obvious that resolution is passed. Thus, it is summed up that the outsiders while entering any contract, has already expected that all the procedures have been completed inside the corporation. Also, it cannot be expected from the outsiders to be aware of the internal policies of the company.
Importance of Strong Management in the Company
The doctrine of indoor management shadows from the doctrine of constructive notice which has been interpreted in various judicial decisions. The company foremost thing to do is providing safety to all his customers, investors and all others who are entering into any contract with the company. This leads to the development of mutual trust between both the parties and which further helps the company to flourish their business and builds more contract with the parties. This whole management of protection is due to this doctrine.
The case of Dey v. Pullinger Engg the company points out controls of business, or its management would not proceed efficiently if individuals related to the company or who are engaging with companies were enforced to have an inquiry of the internal process and on the equipment of the company to see if something is not wrong<9>. With the stranger looking to the company internal policies every time will only raise the trust issue of the company.
The creditors or other depositors contracting with companies need security and a guarantee in all characteristics of the contract. These creditors should have the assurance that their contracts will provide all kinds of benefits to them. Therefore, the safeguard given to the creditors under this doctrine is an appropriate period towards the elevation of manufacture and delivery.
Exceptions to This Doctrine
This Doctrine has its exceptions in certain situations. Both the doctrine and its exceptions are formed judicially. The corporations these days are present here to inhabit the situation in economic and social life in the societies. It is essential to enlarge the meaning of this doctrine and make it easier for the contractors who are entering into the contract with the corporation. The exceptions are as follows:
Knowledge of Irregularity
This doctrine does not act as the safeguard when the person while entering into the contract or any other transaction with the company had the knowledge of any irregularity in the internal management of the company. There is no remedy available if such an occurrence occurs. This is the primary constraint on the submission of this doctrine. If one knows of irregularity and still entered the contract, then the repercussions also to be faced by him alone.
This doctrine does not apply in situations when the person entering into a contract that is outsiders depends on the document which is forged in the name of the company. The company cannot be held accountable if its officers commit counterfeit or forgery.
This can be explained through a case Ruben v. Great Fingall Ltd<10> where the plaintiff receives the share certificate from the company. The certificate was issued by the company secretary of the company where he has forged the signature of two directors of the company and affixed the seal of the company. Though the plaintiff claims that whether the signature is genuine or forged is the work of internal management of the company, the court held that this doctrine does not extend to the forgery committed by the officers of the company.
Also, in this case, the company secretary has forged the signature for his advantage and not for the benefit of the company. Thus, for everything, the company cannot be held liable.
Before making any contract if the party discovers any fault in the management of the company, then the proper investigation should be done. Outsiders being negligent and do not hold any reasonable enquiry even after the doubt than in this case doctrine would not extend any support to the outsiders. These are behind the choice of deceptive authority. The work done by any associate or director, behind the choice of its deceptive authority, will not hold the company liable for any of the non-payments caused by the director or the associate.
Outsiders, while entering into a contract, cannot be negligent while entering the contract. He must access the authority of the officers of the company while entering into the contract. Like when an officer of a company does something which is not ordinarily his duty than in such cases, the person dealing with him must make a proper enquiry and to satisfy him as to officer’s authority.<11>
In the case, Anand Bihari Lal v. Dinshaw & Co<12>., the account of the company transferred the company’s property to the plaintiff. Now, it is the duty of the plaintiff to found about the accountant’s authority, and he cannot be negligent in his duty. It is the plaintiff authority to check the power of attorney and to found out if the accountant has the power to transfer the property of the company. A power of attorney has to be executed in favour of the accountant.<13>
The companies have to be particular about their internal rule and regulation while entering into various types of agreements and other deals with the outsiders. It cannot be expected from an outsider to know about the company internal management and rule. This doctrine is exclusively for the safeguard of interests and the rights of the strange party who come in for the dealings with the corporation in good faith and to whom the company is obligated to. This doctrine of internal management mainly points out the fact that outsiders who are entering into transactions with a company are not guaranteed to organise a systematic investigation into the internal methods of the company.
Lastly, there are certain exceptions provided for the doctrine of internal management which one must be aware of before entering into the contract so that the outsiders can save themselves before falling into any trap.