A question that we are often asked as finance lawyers is what level of support is needed to confirm that a document was properly executed, such that it would be binding on, and enforceable against, the corporate signatory. Our general advice is to obtain a certificate of incumbency, together with an authorizing resolution, and in many cases a legal opinion, from the signatory's legal counsel. However, depending on the nature of the transaction, many of our clients (borrower and lender clients alike) have stated that it is not feasible to obtain these documents given the size of the transaction or other circumstances. In these circumstances, we suggest to our client that they may be able to rely on the "indoor management rule," a longstanding legal principle that counterparties transacting with companies may assume that internal company policies are complied with and that the documents and contracts signed by a signatory on behalf of a corporation are enforceable in accordance with their terms.

While the so called "indoor management rule" is codified in Section 19 of the Business Corporations Act (Ontario) and Section 18 of the Canada Business Corporations Act, the legal roots of the rule can be traced back to ancient English common law as early as the 19th century. The recent case of Accra Wood Productions Ltd. (Bankruptcy of), 2014 BCSC 1259 ("Accra") is welcome news to funders for two separate and distinct reasons. First, the case adds modern support to the ancient rule that reliance can be placed on the indoor management rule. Second, this case considers whether security language embedded in a purchase order will be upheld. It is not uncommon practice for suppliers of goods (whether structured as conditional sales or otherwise) to include security granting language over the goods supplied in a signed purchase order. There has always been a concern that this type of grant of a security interest may not be upheld as it was not the intention of the buyer to confer a security interest on its vendor. As will be discussed in greater detail below, if the language is clear and obvious, a Court will uphold the grant of the security.

A critical issue in Accra was whether a supplier of goods on credit could rely on the assumption that the office manager of the debtor had the authority to enter into a credit agreement and provide security. The trustee in bankruptcy disallowed the supplier's claim on the basis that (i) the office manager who signed the credit application did not have the authority to enter into such an agreement, and (ii) the security interest language in the document was inconspicuously included. The Court allowed the appeal by the supplier, relying on the indoor management rule and noted that, absent fraud or misrepresentation, the party signing an agreement is bound by its terms.

On the indoor management rule, the Court considered, among other things, that the credit agreement included language above the signature block stating "authorized to execute this application on behalf of the Customer" and found this to be a clear confirmation of authority. As well, the debtor and the supplier engaged in an ongoing relationship and the authority of the office manager had not previously been challenged until the insolvency. Regarding the grant of security interest embedded in the underlying contract, the language in the contract was in the same font size and located above the signature block. Based on the location and clarity of the grant of security interest language, the Court in Accra found that "a reasonable step was made to bring attention to the signing party the presence of a security-granting clause in the agreement." The reasons of the Court affirm the commercial practice of most suppliers of goods on credit to include these provisions in a contract. It should be noted that the font size and location of the grant of security interest language was relevant to the Court's decision in this case.  

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.