[COURT OF APPEAL]

In re DAVID PAYNE & CO., LIMITED.

YOUNG v. DAVID PAYNE & CO., LIMITED.

[1902 D. 455.]

Company - Debenture - Ultra Vires - Borrowing Powers - Unauthorized Application of Funds - Knowledge of Director of lending Company of intended Misapplication - Imputed Notice.

Where a company has a general power to borrow money for the purposes of its business, a lender is not bound to inquire into the purposes for which the money is intended to be applied, and the misapplication of the money by the company does not avoid the loan in the absence of knowledge on the part of the lender that the money was intended to be misapplied.

Davis's Case, (1871) L. R. 12 Eq. 516, overruled on this point.

K., who was a director of company A. and was also interested in company B., having ascertained in his private capacity that company B. proposed to borrow a sum of money for a purpose outside the scope of its business, induced company A. to advance the money to company B. on the security of a debenture of that company, and the money was applied by company B. in the manner proposed. Company B. had a general power of borrowing under its memorandum and articles of association for the purposes of its business. No other director of company A. except K. knew how the money was intended to be applied:-

Held, that K.'s knowledge ought not to be imputed to company A. inasmuch as K. owed no duty to that company either to receive or to disclose information as to how the borrowed money was to be applied, and that the debenture was a valid security.

Decision of Buckley J. affirmed.

THIS was an application by the liquidator in the winding-up of David Payne & Co., Limited, for a declaration that a second mortgage debenture for 6250l., purported to have been issued by that company to the Exploring Land and Minerals Company, Limited, was ultra vires and void, and did not constitute a charge on the undertaking or assets of the borrowing company.

David Payne & Co. was incorporated in 1894 for the purpose of acquiring the business of a printers' and stationers' engineer and machinist lately carried on by John Payne at Otley, Yorkshire.

The memorandum of association, in stating the objects of the company, contained the following clause:-

"(M) To borrow and raise money for the purposes of the company's business in such manner as the company shall think fit, and in particular by the issue of debentures or debenture stock, perpetual or otherwise, charged upon all or any of the company's property (both present and future), including its uncalled capital."

Clause 114 of the articles of association, which defined the powers of the directors, empowered them to (amongst other things) -

"(D) Borrow, or raise, or secure any sums or sum of money on the security of the property of the company (including uncalled capital, if any), or any part thereof, either by way of mortgage with or without power of sale, or of debentures or debenture stock or other security, or without security and upon such terms as to payment, interest, or redemption, or otherwise as they may think fit, and out of the assets of the company redeem and pay such securities and loans ...."

The evidence in this case was very unsatisfactory, consisting mainly of an affidavit of one Johnston, an American engineer and inventor, who died before he could be cross-examined on his affidavit; but the facts found by the Court for the purposes of this application may be thus stated:-

In 1900 David Payne & Co. was in difficulties, and from that time forward until its winding-up in March, 1902, the control of the company was assumed by Johnston. Johnston had also the control of three other companies connected with the printing trade, namely, the Johnston Foreign Patents Company, the Johnston Die Press Company, and the Johnstonia Engraving Company. In the beginning of 1902 he put forward a scheme of amalgamation, under which a new company was to be formed for the purpose of acquiring the business of all the companies in which he was interested. At this time the three Johnston companies were insolvent, and Johnston wanted money to pay an instalment of 2000l. which was about to become due from him to an American company in respect of certain patents which he had purchased.

Moreover, Messrs. Montagu Young & Co., a firm of stock-brokers who had made large advances to Johnston for the purposes of this amalgamation scheme, desired to be further satisfied in respect of their position. Mr. Kolckmann, a member of the firm, was also interested in this scheme on his own account, and was to receive 25,000l. in shares if the scheme was carried through. In this state of things an interview took place on February 13, 1902, between Johnston, Kolckmann, and a Mr. Pakeman, a member of the firm of Pakeman & Read, who acted as solicitors to David Payne & Co. It was then arranged that Kolckmann, who was a director of the Exploring Land and Minerals Company, should induce that company to advance 6000l. on the security of a second mortgage debenture in David Payne & Co., in order to provide for the instalment of 2000l. and to keep the three Johnston companies in funds pending the amalgamation, and it was further arranged that Kolckmann's firm should extend the amount of their advances to Johnston to 30,000l. in consideration of Johnston's transferring to them all his securities, including the debentures which he was to get in the amalgamated company.

On February 17 Kolckmann called on Mr. Bourke, the chairman of the Exploring Land and Minerals Company, and suggested that that company should lend to David Payne & Co. a sum of 6000l. for thirty days upon a second mortgage debenture for 6250l., the 250l. being the price to be paid by David Payne & Co. for the accommodation; but he did not tell Bourke how the 6000l. was going to be applied. Bourke agreed to the money being advanced, and on the following day, February 18, a cheque for 6000l. was drawn in favour of Messrs. Pakeman & Read, the solicitors of David Payne & Co., and was sent to them by the secretary. This cheque was signed by Kolckmann and countersigned by the secretary. On March 4, 1902, the Exploring Land and Minerals Company received from David Payne & Co. the debenture for 6250l., which was dated February 25, 1902. On March 12, 1902, the transaction was reported to a board meeting of the Exploring Land and Minerals Company and ratified.

It appeared from the evidence that substantially the whole of the 6000l. was paid to the Johnston companies and to Johnston, but there was no evidence that the directors of the Exploring Land and Minerals Company other than Kolckmann, at the time when they advanced the 6000l., had any knowledge that the money was intended to be so applied.

The two main grounds upon which the liquidator based his case were - (1.) that the borrowing was not authorized by the memorandum and articles of the company, and was absolutely ultra vires independently of the question whether the lending company had notice of the purposes for which the money was to be applied; (2.) that Kolckmann's knowledge ought to be imputed to the lending company.

The application came on for hearing before Buckley J. on February 5, 1904.

Buckmaster, K.C., and Nepean, for the liquidator.

Upjohn, K.C., and Jessel, for the Exploring Land and Minerals Company.

BUCKLEY J. (after stating the facts). Under these circumstances, am I to say that the Exploring Land and Minerals Company had notice of what Kolckmann knew? I think not. I understand the law to be this: that if a communication be made to an agent which it would be his duty to hand on to his principals, who in this case, of course, were the board of which Kolckmann was but one member, and if the agent has an interest which would lead him not to disclose to his principals the information which he has thus obtained, and in point of fact he does not communicate it, you are not to impute to his principals knowledge by reason of the fact that their agent knew something which it was not his interest to disclose, and which he did not disclose. I think, therefore, I ought not to impute to the Exploring Land and Minerals Company the knowledge which Kolckmann had. That leaves only this matter to be considered. If an act ultra vires the corporation be done, it may be immaterial whether the other party to that act had knowledge or had not knowledge that

the corporation could not do it, and in that state of things the investigation of knowledge which I have made would become irrelevant. Was the borrowing by David Payne & Co. for the purposes of paying 2000l. to Johnston and 4000l. to the Johnston companies ultra vires, so that, notwithstanding the absence of knowledge, the thing which they in fact sealed does not bind them? That arises upon a clause in the memorandum of association and one of the articles. The clause in the memorandum is a power to borrow and raise money for the purposes of the company's business, and art. 114 (D) gives power to the directors to borrow or raise or secure any sum or sums of money on the security of the property of the company by the issue of debentures, and so on. What is the effect of clauses of that kind? Suppose under a memorandum such as this a board, after passing proper resolutions, go to their bankers, or to anybody else, and say, "Lend us 10,000l." Is it the duty of the lending company then to say, "I look at your memorandum" - which certainly they are bound to look at - "and I find that you can only raise money for the purposes of your business; I cannot safely lend to you until you shew me you are borrowing for the purposes of your business"? In other words, is it a condition attached to the exercise of the power that the money should be borrowed for the purposes of the business, or is that a matter to be determined as between the shareholders and the directors? In my view, the introduction into any memorandum of association of a power to borrow is, generally speaking, unnecessary. Every trading company has power to borrow for the purposes of its business, and the introduction of this clause is only to express in words what would otherwise be the law. A limitation of the borrowing to borrowing for the purposes of the company's business is necessary, of course. A corporation cannot do anything except for the purposes of its business, borrowing or anything else; everything else is beyond its power, and is ultra vires. So that the words "for the purposes of the company's business" are a mere expression of that which would be involved if there were no such words. If you found a power to borrow which would arise only on the happening of a

particular event, then I think it would lie upon the lender to say, "I cannot lend to you until you can satisfy me that the condition has been complied with"; but where the power is merely a general power to borrow, limited only, as it must be, for the purposes of the company's business, I think the matter is to be treated in this way - that the lender cannot investigate what the borrower is going to do with the money; he cannot look into the affairs of the company and say, "Your purposes do not require it now; this borrowing is unnecessary; you must shew me exactly why you want it," and so on. That is all matter lying between the shareholders and the directors. If this borrowing was made, as it appears to me at present it was made, for a purpose illegitimate so far as the borrowing company was concerned, that may very well be a matter on which rights may arise as between the shareholders and directors of that company. It may have been a wrongful act on the part of the directors. But I do not think that a person who lends to the company is by any words such as these required to investigate whether the money borrowed is borrowed for a proper purpose or an improper purpose. The borrowing being effected, and the money passing to the company, the subsequent application of the money is a matter in which the directors may have acted wrongly; but that does not affect the principal act, which is the borrowing of the money. On general principles, I may point out, it would be perfectly impossible to work such a clause as this in any other way. A corporation, every time it wants to borrow, cannot be called upon by the lender to expose all its affairs, so that the lender can say, "Before I lend you anything I must investigate how you carry on your business, and I must know why you want the money, and how you apply it, and when you do have it I must see you apply it in the right way." It is perfectly impossible to work out such a principle. I think here the power to borrow was a power resting in the directors. It did not lie on the Exploring Land and Minerals Company to say, "We cannot lend anything to you until you say exactly what you are going to do with it when you have got it."

For these reasons it seems to me the Exploring Land and

Minerals Company, who have paid this money and taken this debenture without notice that the money was going to be applied as it was, are not affected by anything arising in regard to that. I therefore think that they are entitled to hold the debenture for which they paid 6000l.

H. C. R.

The liquidator appealed. The appeal came on for hearing on June 17, 1904.

Buckmaster, K.C., and Nepean, for the liquidator. (1.) The debenture was not issued to raise money for the purposes of the company, and is therefore invalid whether the lenders had or had not notice of the purposes to which the money was to be applied.

(2.) The lending company had through Kolckmann notice of the purposes for which it was raised: Mahony v. East Holyford Mining Co. (1)

There was no power to issue debentures for the purpose of paying Johnston's debt, or for the purposes of the other companies.

[ROMER L.J. If a company has power to issue debentures to secure the repayment of money advanced to it, can the fact that the directors intend to apply the money improperly affect the validity of the debenture?]

Yes: Davis's Case.(2) There was from the first a bargain to lend the money for an improper purpose. The lending company were bound to look into the memorandum and articles of association of the borrowing company to ascertain that the borrowing powers were not exceeded, and it matters not whether they are exceeded as to amount or in any other particular, e.g., by the money being intended to be applied to an improper purpose: Chapleo v. Brunswick Permanent Building Society. (3)

The main question is whether the knowledge of Kolckmann can be imputed to the lending company. He was the only person who acted in the matter for that company. If an

(1) (1875) L. R. 7 H. L. 869, 899.

(2) L. R. 12 Eq. 516.

(3) (1881) 6 Q. B. D. 696.

agent commits a fraud in the very transaction in which he is acting as agent, the principal is bound. The knowledge of Kolckmann must be imputed to the company.

[VAUGHAN WILLIAMS L.J. This case is very like In re Marseilles Extension Ry. Co. (1)]

That case was considered in In re Hampshire Land Co. (2) Both those cases are distinguishable from the present. It was Kolckmann's duty to give this company all the information which he had; and where there is a duty on the agent to disclose, disclosure is presumed even though it is not his interest to disclose. It is submitted that Buckley J.'s judgment was wrong in this respect. And, further, it is immaterial whether there was any duty on the agent to disclose at the time when the information was received if a duty arose subsequently: Bradley v. Riches (3); Kettlewell v. Watson. (4)

Upjohn, K.C., and Jessel, for the Exploring Land and Minerals Company.

VAUGHAN WILLIAMS L.J. I think that the decision of Buckley J. in this case was quite right, and that this appeal must be dismissed. Mr. Nepean has said everything that can be said in the case, and, I should like to add, has said nothing irrelevant, and urged nothing on us which was not useful; at the same time, he has not convinced me. He began with an argument that this transaction was ultra vires altogether - that it was just as if this transaction was a lending to a company with a limited borrowing power in excess of the amount authorized by the power; but he was compelled to abandon that first attack on the judgment of Buckley J., because really in the face of In re Marseilles Extension Ry. Co. (1) it was impossible to maintain that proposition. The whole inquiry which was there entered into by the Court as to the knowledge of the lending company would have been absolutely immaterial if this transaction was ultra vires in such a sense that nothing could make it right. That disposes of that contention. Now then, assuming that one has to prove the knowledge of the

(1) (1871) L. R. 7 Ch. 161.

(2) [1896] 2 Ch. 743.

(3) (1878) 9 Ch. D. 189.

(4) (1882) 21 Ch. D. 685.

lending company here that the money was going to be applied to an improper purpose, how is it sought to prove that? It is attempted to prove it by saying that Kolckmann knew it, that Kolckmann was a director of the lending company, and that he was acting in this matter, and that, as he knew it, it must be taken that the company knew it. Attention is called to the fact that at the moment that Kolckmann became aware, if he ever did become aware, that the money was intended to be applied for purposes outside the memorandum of association, Kolckmann was in fact, though a director of the lending company, yet not purporting to act as such director. But then it is said, "True; but it is not necessary that the agent should have acquired the knowledge at the time when he is acting as agent. It is sufficient if he afterwards acts as agent in respect of the matter as to which he has acquired the knowledge. It then becomes his duty to communicate to the company for which he is then acting the knowledge which he has previously acquired"; and Bradley v. Riches (1) and Kettlewell v. Watson (2) were cited in favour of that proposition. I entirely agree; but those cases have no application at all to the present case, because in my opinion, at the moment when Kolckmann began acting on behalf of the company, the transaction was of such a nature that there was no obligation on the part of the lending company to inquire to what purposes the borrowed money was going to be applied, and there was no obligation upon Kolckmann to receive or disclose any such information. I believe I correctly stated the result of In re Marseilles Extension Ry. Co. (3) in In re Hampshire Land Co. (4) when I said: "It seems to me that, broadly, the Lords Justices do draw the line thus, that the knowledge which has been acquired by the officer of one company will not be imputed to the other company, unless the common officer had some duty imposed upon him to communicate that knowledge to the other company, and had some duty imposed on him by the company which is alleged to be affected by the notice to receive the notice." To my mind the proper inference in this case is that there was no

(1) 9 Ch. D. 189.

(2) 21 Ch. D. 685.

(3) L. R. 7 Ch. 161.

(4) [1896] 2 Ch. 743, 748.

duty on the part of Kolckmann to receive any information on account of his company as to how this money was going to be applied. It was not the duty of his company to make any inquiry on that subject, nor was it the duty of the directors of the company to receive any information. That is the inference which I draw here from the facts. Kolckmann at some meeting, when he was acting in his own interest entirely and not as director, discussed with some people how some money could be raised, and it was then suggested that an application should be made to the Exploring Land and Minerals Company to lend this money upon the security of a debenture of David Payne & Co. The application is made; the matter is introduced to the lending company through the medium of Kolckmann. Under these circumstances the money is lent on the authority of Mr. Bourke, the chairman, Kolckmann actually signing the cheque, and these two acted in this matter without any direct authority of the company. Therefore they acted in an unauthorized manner. But then a fortnight later the matter is brought to the attention of the board, and the lending of the money is ratified. In my opinion it would be altogether wrong to impute to the Exploring Land and Minerals Company the knowledge which came to Kolckmann at the time when the meeting to which I have referred took place. To my mind there is no evidence here to shew that Kolckmann ever professed to act on behalf of the company until he drew this cheque which was to be exchanged for the debenture. It is said that the board ratified Kolckmann's negotiation. I think they only ratified it so far as he was professing to act on behalf of the company. Under these circumstances I see no ground on the facts for imputing Kolckmann's knowledge to the company. I therefore think that this debenture is a good security in the hands of the lending company.

I wish to make one observation about Davis's Case.(1) The report is not very precise; but if that case is really an authority for the proposition that the application of money borrowed within the borrowing powers of the company for purposes not authorized by the memorandum of association makes the

(1) L. R. 12 Eq. 516.

transaction invalid, and the security given to the lender a nullity, merely because there was an intention on the part of the borrowing company to apply the money for an improper purpose, although the lending company might have had no knowledge whatever that the money was to be applied for that improper purpose, I think that Davis's Case (1) is wrong and cannot be reconciled with subsequent authorities.

ROMER L.J. I have come to the same conclusion. In the first place, where you have a limited company with a memorandum of association authorizing the company to embark on a series of transactions, if among those purposes you find a power to borrow generally for the purposes of the company, I take it to be clear beyond controversy at the present day that, when money is being borrowed within the limits of the power of borrowing as to amount, the person who lends the money is not bound to inquire to what purpose the borrowing company is about to apply the money so borrowed; and if Davis's Case (1) is an authority to the contrary, I cannot agree with it. The only other question is as to imputed notice. I take it that there was a transaction between the Exploring Land and Minerals Company and David Payne & Co. of this kind. The first company lent 6000l. secured by a debenture of the second company. Now that transaction was intra vires the second company. But there was some evidence to shew that it was intended by some of the directors of the second company to apply the money for purposes not authorized and altogether improper qua the second company. Now, one director of the first company knew how that money was going to be applied. He acquired that knowledge through some conversation which he had with some people in his private capacity before that transaction was carried out by the lending company. The question is whether, inasmuch as that director took part on behalf of his company in authorizing the lending of the money and the acquisition of the debenture and assisted in carrying out that transaction, the knowledge of that director so acquired is to be considered the knowledge of the lending company.

(1) L. R. 12 Eq. 516.

Is that knowledge as a matter of law to be imputed to the lending company? In my opinion no such notice can be imputed at law. I take it that in such a transaction the lending company was not bound to inquire as to the application of the money at all by the borrowing company. That being so, it appears to me that knowledge independently acquired by a director in his personal capacity in respect to a matter which was irrelevant so far as concerned the lending company is knowledge which cannot be imputed to the company, for it was knowledge of something which really did not concern the lending company as a matter of law. Therefore, you cannot imply a duty on the part of the director to have told these facts to the lending company, or a duty on the part of the lending company to have inquired into that question. The lending company not having any reason to know how the money was to be applied apart from the knowledge of the director, it would have been wholly improper for the agent of that company to have inquired into the question of the application of the money. That being so, there was no legal duty on the director to impart his knowledge, nor any duty on the part of the company to have acquired the knowledge. Apart from the knowledge of the director, no knowledge in fact was proved against the lending company. I therefore think that the appeal fails.

COZENS-HARDY L.J. I am of the same opinion. There is one point, as to whether a person lending money to a company is in danger of losing his security if the company intended to devote the money to improper purposes, as to which I should like to add a few words. I do not think the point can be put better than it has been by Buckley J. He says: "Where the power is merely a general power to borrow, limited only, as it must be, for the purposes of the company's business, I think the matter is to be treated in this way, that the lender cannot investigate what the borrower is going to do with the money; he cannot look into the affairs of the company and say, 'Your purposes do not require it now; this borrowing is unnecessary; you must shew me exactly why you want it.'"

That statement of the law being entirely consistent with recent authorities, it seems to me to follow that Davis's Case (1) cannot be relied on as laying down any principle of law upon which we ought to act. There may have been some circumstances which would justify the decision not to be found in the report, but otherwise I am of opinion that that decision is wrong. As to imputed notice, the ground has been so completely covered by Romer L.J. and by In re Marseilles Extension Ry. Co. (2) and In re Hampshire Land Co. (3) that I do not think that I should be doing any useful service by adding anything. I will only say that if I took a different view of the law I should hesitate to place complete reliance on Mr. Johnston's evidence.

Solicitors: Blundell, Gordon & Co.; Willis & Willis.

H. B. H.

(1) L. R. 12 Eq. 516.

(2) L. R. 7 Ch. 161.

(3) [1896] 2 Ch. 743, 748.