Bills of Exchange ‑‑ Forged cheques ‑‑ Customer's employee forging signatures of signing officers and concealing forgeries ‑‑ Whether or not customer precluded from setting up forgeries against bank ‑‑ Whether or not duty, in the absence of a verification agreement, to examine bank statements with reasonable care and to report discrepancies within a reasonable time ‑‑ Whether or not duty to maintain adequate internal accounting controls for the prevention and minimization of loss through forgery.
A number of forged cheques were drawn on the chequing account, at respondent bank, of one of appellant's operating units and were made payable to defendant companies which were controlled by defendant Sands. The cheques in question required the signature of both the unit's manager and its accountant. Sands, as assistant accountant for the unit forged both signatures and then, when he became the unit's accountant, that of the manager. The procedure manual required the accountant of the unit to prepare monthly bank reconciliations with a list of outstanding cheques and to forward them to the assistant accountant of the head office of the appellant. The responsibility for the bank reconciliations based on the daily bank statements and disbursement records was delegated to Sands, as assistant accountant, by the unit's accountant and was later exercised by Sands as accountant. The unit's accountant received a summary statement of the monthly bank reconciliation from Sands, generally without a list of the outstanding cheques, but otherwise did not check his work in the preparation of the bank reconciliation, or examine the daily bank statements or the cancelled cheques.
Appellant's banking operations were part of the over‑all banking arrangements made with the bank by Canadian Pacific Limited ("CP") for itself and its subsidiary and associated companies. CP was not required by the bank to sign a verification agreement obliging it and its subsidiary and associated companies to verify bank statements and report discrepancies within a specified period of time. Neither the general agreement between CP and the bank respecting the bank's remuneration nor the "Operation of Account Agreement" contained any reference to the verification of bank statements. The daily bank statement sent to the operating unit of the appellant contained the following statement: "Please check this statement promptly. Any errors, irregularities, or omission found therein should be reported within 30 days of delivery or mailing, otherwise it will be considered correct."
The trial judge, who was upheld by a majority of the Court of Appeal, found two duties on the part of the appellant: the duty, in the absence of a verification agreement, to examine bank statements with reasonable care and to report any discrepancies within a reasonable time, and the duty to maintain an acceptable system of internal controls for the prevention and minimization of loss through forgery. He found that the appellant was in breach of both duties, that its negligence was the cause of the loss, and that it was precluded by such negligence from setting up the forgeries against the bank. He accordingly dismissed the appellant's action for recovery of the amount by which its account had been debited for the payment of the forged cheques.
The issue was whether the appellant was precluded, within the meaning of s. 49(1) of the Bills of Exchange Act, from setting up the forgeries against the respondent. That question turned on whether, apart from the question of policy, there was a sound basis in law for either of the duties of care affirmed by the trial judge.
Held: The appeal should be allowed.
Per Estey, McIntyre, Lamer, Wilson and Le Dain JJ.: The appellant was not in breach of any duty owing to the respondent and was therefore not precluded from setting up the forgeries against the bank. A customer of a bank does not, in the absence of a verification agreement, owe a duty to the bank to examine bank statements with reasonable care and to report any discrepancies within a reasonable time, nor does a customer, "sophisticated" or otherwise, owe a duty to its bank to maintain an adequate system of internal accounting controls for the prevention and minimization of loss through forgery. There is no basis under any of the categories of implication for holding either duty to be an implied term of the contract between banker and customer. Any such implication would have to apply to all customers and not merely to customers of a certain size or kind, characterized as "sophisticated commercial customers". In view of the established law and practice with respect to a customer's duty of care in respect of the prevention and detection of forgery in the drawing of his cheques, neither duty can be implied on the basis of presumed intention, as resting on custom or usage or on the business efficacy or "officious bystander" tests. Nor is there any basis for implication of either duty as a legal incident of a particular class of contract. The test for such implication is also one of necessity and not mere reasonableness. It was not argued whether, if either of the duties contended for by the respondent did not exist in contract, they could arise in tort. Nor was any consideration given as to whether, as a matter of principle, a duty of care in tort could be held to arise in a contractual relationship from which the same duty had been excluded by the courts as an implied term of the contract. Assuming it to be arguable that a duty to examine bank statements with reasonable care and to report any discrepancies within a reasonable time could arise in tort, the principle of concurrent or alternate liability in contract and in tort affirmed in Central Trust Co. v. Rafuse, [1986] 2 S.C.R. 147, cannot extend to the recognition of a duty of care in tort when the same duty of care has been rejected or excluded by the courts as an implied term of a particular class of contract.
Per La Forest J.: Notwithstanding general agreement with the judgment of Le Dain J., the issue of concurrent liability in contract and tort should not be approached by focussing discretely on the banker‑customer contract but in the context of the general system or code governing bills of exchange which developed without regard to the distinction between tort and contract. This system requires clear rules of general application; exceptions, based on estoppel, are narrow. To introduce a wider duty today under the rubric of the tort of negligence would effect the same uncertainties as those perceived by earlier authorities.
Parliament, by the Bills of Exchange Act and in particular s. 49(1), generally sought to codify the pre‑existing law. The word "precluded" in that section cannot be read as authorizing at this late date a wide divergence from the rules for loss allocation that it sought to codify. This does not mean that the law is completely frozen, but it does mean that it cannot be expanded in such a way as to give rise under a new label to a wider duty that is inconsistent with the basic policy choice it sought to codify.
Cases Cited
By Le Dain J.
Considered: Arrow Transfer Co. v. Royal Bank of Canada, [1972] S.C.R. 845; Leather Manufacturers' Bank v. Morgan, 117 U.S. 96 (1886); London Joint Stock Bank v. Macmillan, [1918] A.C. 777; Greenwood v. Martins Bank, Ltd., [1933] A.C. 51, affirming [1932] 1 K.B. 371; Tai Hing Cotton Mill Ltd. v. Liu Chong Hing Bank Ltd., [1986] 1 A.C. 80, reversing [1984] 1 Lloyd's Rep. 555; Columbia Graphophone Co. v. Union Bank of Canada (1916), 38 O.L.R. 326; Ewing v. Dominion Bank, [1904] A.C. 806, refusing leave to appeal from (1904), 35 S.C.R. 133, affirming (1904), 7 O.L.R. 90; Freeman v. Cooke (1848), 2 Ex. 654, 154 E.R. 652; Young v. Grote (1827), 4 Bing. 253, 130 E.R. 764; Arnold v. Cheque Bank (1876), 1 C.P.D. 578; Agricultural Savings and Loan Association v. Federal Bank (1881), 6 O.A.R. 192; Bank of England v. Vagliano, [1891] A.C. 107, reversing (1889), 23 Q.B.D. 243; Kepitigalla Rubber Estates, Ltd. v. National Bank of India, [1909] 2 K.B. 1010; M`Kenzie v. British Linen Co. (1881), 6 App. Cas. 82; Ogilvie v. West Australian Mortgage, and Agency Corp., [1896] A.C. 257; Fung Kai Sun v. Chan Fui Hing, [1951] A.C. 489; Lister v. Romford Ice and Cold Storage Co., [1957] A.C. 555; distinguished: Central Trust Co. v. Rafuse, [1986] 2 S.C.R. 147; referred to: Bank of Montreal v. The King (1907), 38 S.C.R. 258; Bank of Montreal v. Attorney General (Que.), [1979] 1 S.C.R. 565; Devaynes v. Noble (generally referred to as Clayton's Case) (1816), 1 Mer. 529, 35 E.R. 767; Glassell Development Co. v. Citizens' National Bank of Los Angeles, 191 Cal. 375 (1923); Basch v. Bank of America, 22 C.2d 316 (1943); Pacific Coast Cheese, Inc. v. Security First National Bank of Los Angeles, 286 P.2d 353 (1955); Bank of Ireland v. Evans' Trustees (1855), 5 H.L.C. 389, 10 E.R. 950; Swan v. North British Australasian Co. (1863), 2 H. & C. 175, 159 E.R. 73; Rutherford v. Royal Bank of Canada, [1932] S.C.R. 131; Mackenzie v. Imperial Bank of Canada, [1938] O.W.N. 166; B. and G. Construction Co. v. Bank of Montreal, [1954] 2 D.L.R. 753; Banque Provinciale du Canada v. Syndicat des Camionneurs Artisans du Québec Métropolitain, [1970] C.A. 425, (1969), 11 D.L.R. (3d) 610; Bad Boy Appliances and Furniture Ltd. v. Toronto‑Dominion Bank (1972), 25 D.L.R. (3d) 257; Liverpool City Council v. Irwin, [1977] A.C. 239, varying [1976] 1 Q.B. 319; The "Moorcock" (1889), 14 P.D. 64; Reigate v. Union Manufacturing Co. (Ramsbottom), [1918] 1 K.B. 592; Shirlaw v. Southern Foundries (1926), Ltd., [1939] 2 K.B. 206; Greaves & Co. (Contractors) Ltd. v. Baynham Meikle and Partners, [1975] 3 All E.R. 99; Miller v. Hancock, [1893] 2 Q.B. 177; Shell UK Ltd. v. Lostock Garage Ltd., [1977] 1 All E.R. 481; Mears v. Safecar Security Ltd., [1982] 2 All E.R. 865; Harvela Investments Ltd. v. Royal Trust Co. of Canada (CI) Ltd., [1985] 1 All E.R. 261; Selangor United Rubber Estates Ltd. v. Cradock (No. 3), [1968] 1 W.L.R. 1555; Karak Rubber Co. v. Burden (No. 2), [1972] 1 W.L.R. 602; Anns v. Merton London Borough Council, [1978] A.C. 728; Esso Petroleum Co. v. Marden, [1976] Q.B. 801; Midland Bank Trust Co. v. Hett, Stubbs and Kemp, [1979] Ch. 384; Hutton v. Warren (1836), 1 M. & W. 446, 150 E.R. 517; The "Freiya" v. The ``R.S.'', [1922] 1 W.W.R. 409; Joachimson v. Swiss Bank Corp., [1921] 3 K.B. 110; Tournier v. National Provincial and Union Bank of England, [1924] 1 K.B. 461.
By La Forest J.
Referred to: Bank of Ireland v. Evans' Trustees (1855), 5 H.L.C. 389, 10 E.R. 950; Kepitigalla Rubber Estates, Ltd. v. National Bank of India, [1909] 2 K.B. 1010.
Statutes and Regulations Cited
Bills of Exchange Act, R.S.C. 1970, c. B‑5, s. 49(1).
Uniform Commercial Code, s. 4‑406.
Authors Cited
Cheshire, Geoffrey Chevalier, and Cecil H. Stuart Fifoot. Law of Contract, 10th ed. By M. P. Furmston. London: Butterworths, 1981.
Treitel, G. H. The Law of Contract, 5th ed. London: Stevens & Sons, 1979.
APPEAL from a judgment of the Ontario Court of Appeal (1982), 139 D.L.R. (3d) 575, dismissing an appeal from a judgment of Montgomery J. (1981), 32 O.R. (2d) 560, 122 D.L.R. (3d) 519, dismissing appellant's action. Appeal allowed.
John P. Bassel, Q.C., and Robert M. Zarnett, for the appellant.
John W. Adams, Q.C., and Ian V. B. Nordheimer, for the respondent.
The judgment of Estey, McIntyre, Lamer, Wilson and Le Dain JJ. was delivered by
1. Le Dain J.‑‑The general question raised by this appeal is the extent of the duty of care owed by a customer to a bank in respect of the prevention and detection of forgery in the drawing of the customer's cheques. The particular issue is whether, in the absence of an express agreement (generally referred to as a "verification agreement"), the customer owes a duty to examine bank statements and vouchers with reasonable care and to report any discrepancies within a reasonable time. There is also the question whether a "sophisticated commercial customer" owes a duty to its bank to maintain an acceptable system of internal controls, reflecting proper accounting practices and procedures, for the prevention and minimization of loss through forgery.
2. The appeal is by leave of this Court from the judgment of the Ontario Court of Appeal on June 25, 1982 (1982), 139 D.L.R. (3d) 575, dismissing an appeal from the judgment of Montgomery J. in the Supreme Court of Ontario on May 11, 1981 (1981), 122 D.L.R. (3d) 519, which dismissed the appellant's action against the respondent bank for $219,644.92, being the total amount debited to the appellant's account for the payment of twenty‑three cheques bearing the forged signatures of signing officers, on the ground that the appellant was precluded by negligence from setting up the forgeries against the bank.
I
3. The cheques in issue were drawn during the period April 1976 to July 1977 inclusive on the chequing account, at the respondent Bank of Montreal ("the Bank"), of the operating unit or division of the appellant Canadian Pacific Hotels Limited ("CP Hotels"), at the Toronto International Airport, known as the Chateau Flight Kitchen (sometimes referred to as the "Malton Flight Kitchen" and hereinafter referred to as the "Flight Kitchen"). The banking operations of CP Hotels, including those of the Flight Kitchen, were part of the over‑all banking arrangements made with the Bank by Canadian Pacific Limited ("CP") for itself and its subsidiary and associated companies. CP operated a centralized banking arrangement known as Treasury under which the Flight Kitchen maintained separate deposit and disbursement accounts with the Bank and a Treasury account with CP. Deposits were transferred on a daily basis to the Treasury account, and an amount was transferred daily from the Treasury account to the disbursement account to restore the balance in that account to zero. Disbursements by the Flight Kitchen to other participants under the Treasury banking arrangement were made by intercompany payment orders (ICPO's), which were non‑negotiable cheques drawn on the Treasury account. The Bank submitted a daily bank statement with vouchers to the Flight Kitchen. The CP Hotels procedure manual required the accountant of the Flight Kitchen to prepare monthly bank reconciliations with a list of outstanding cheques and to forward them to the assistant accountant of the head office of CP Hotels.
4. During the relevant period the staff of the Flight Kitchen concerned with banking and accounting matters consisted of the manager, Donald Saunders; the accountant, Robert Hird, who left in January 1977; the assistant accountant, Morris Sands (also known and referred to by the trial judge as "Morris Sigulim"), who assumed the position of accountant some two months after the departure of Hird; the disbursement clerk, W. Uddin; and the purchasing agent, the payroll clerk and the general clerk, whose functions and responsibilities, unlike those of the others, were not the subject of comment by the trial judge. During the relevant period the cheques of the Flight Kitchen required the signature of two signing officers: that of the manager, Saunders, and that of the accountant, Hird, and later that of Sands. As the accountant, Hird was responsible for the bank reconciliations based on the daily bank statements and the disbursement records, including the cancelled cheques, but he delegated that function to the assistant accountant, Sands. Uddin was responsible for keeping the disbursement records, including the cancelled cheques. Hird received a summary statement of the monthly bank reconciliation from Sands, generally without a list of the outstanding cheques. He did not otherwise check the work of Sands in the preparation of the bank reconciliation. He did not examine the daily bank statements or the cancelled cheques, nor did he check the work of Uddin.
5. During the relevant period the defendant Sands forged the signature of Saunders on all twenty‑three, and the signature of Hird on nineteen, of the cheques for which the claim is made. He made the cheques payable to the defendant companies, Dundas Discounts Limited and Sig‑Mor Sales Limited, which were controlled by him. The forgeries were not discovered until August, 1977. CP Hotels gave the Bank notice of them on August 25, 1977.
6. The daily bank statement sent to the Flight Kitchen contained the following statement: "Please check this statement promptly. Any errors, irregularities, or omissions found therein should be reported within 30 days of delivery or mailing, otherwise it will be considered correct." CP was not required by the Bank to sign a verification agreement obliging it and its subsidiary and associated companies to verify bank statements and report discrepancies within a specified period of time. Neither the general agreement between CP and the Bank respecting the Bank's remuneration nor the "Operation of Account Agreement" contained any reference to the verification of bank statements.
7. The action of CP Hotels against the Bank for recovery of the amount of $219,644.92 is framed as one for conversion and alternatively for money had and received and alleges breach of contract and negligence by the Bank in honouring the forged cheques. In its defence the Bank alleges that CP Hotels is "estopped or otherwise denied" from recovering the amounts debited in respect of the forged cheques by the breach of a duty, arising out of the banker and customer relationship, to check its bank statements and vouchers on at least a monthly basis, with a bank reconciliation for such purpose, and to notify the Bank immediately of any errors. The Bank also sets up in relation to this alleged duty the defence of a stated or settled account. The Bank further alleges the breach by CP Hotels of a duty to take reasonable precautions to prevent fraud by its employees in relation to dealings with the Bank by the maintenance of adequate supervision and internal accounting controls and also invokes the responsibility of a principal for the fraud of an agent acting within the scope of his actual or apparent authority.
8. Both CP Hotels and the Bank rely on s. 49(1) of the Bills of Exchange Act, R.S.C. 1970, c. B‑5, which provides:
49. (1) Subject to this Act, where a signature on a bill is forged, or placed thereon without the authority of the person whose signature it purports to be, the forged or unauthorized signature is wholly inoperative, and no right to retain the bill or to give a discharge therefor or to enforce payment thereof against any party thereto can be acquired through or under that signature, unless the party against whom it is sought to retain or enforce payment of the bill is precluded from setting up the forgery or want of authority.
CP Hotels relies on s. 49(1) for the rule that a forged signature is wholly inoperative and thus the Bank had no authority to pay the cheques and debit CP Hotels for the amount of them. Both the Bank and CP Hotels rely on s. 49(1) for the extent to which the general rule respecting the effect of a forged signature has been qualified by the words "unless the party against whom it is sought to retain or enforce payment of the bill is precluded from setting up the forgery or want of authority." Thus the issue in the case is whether CP Hotels is precluded, within the meaning of s. 49(1), from setting up the forgeries against the Bank.
9. Despite the absence of a verification agreement, Montgomery J. in the Supreme Court of Ontario held that CP Hotels owed a duty to the Bank to examine its bank statements with reasonable care and to report any discrepancies within a reasonable time. He also held that a "sophisticated commercial customer", such as CP Hotels, owed a duty to its bank to maintain an acceptable system of internal controls for the prevention and minimization of loss through forgery. Such controls included a division or segregation of duties and supervision and verification of the work of those responsible for the bank reconciliation and the records on which it must be based. The trial judge found that CP Hotels was in breach of both duties and that its negligence was the cause of the loss resulting from the forgeries. In particular, he found that the accountant, Robert Hird, had been negligent in delegating the bank reconciliation to Sands and not supervising or checking his work and that of the disbursement clerk, Uddin. He also found a lack of supervision by the manager of the Flight Kitchen and by the head office of CP Hotels, particularly after Sands had assumed the duties of accountant. The trial judge found that it was the lack of supervision and other internal controls that permitted Sands to conceal the forgeries for as long as he did by manipulation of the bank reconciliation and the accounting records on which it was based, and that but for the negligence of CP Hotels the irregularities would have been discovered as early as April 1976. The trial judge also found that the Bank, which employed verification clerks to verify the signatures of customers, had not been negligent. He held that CP Hotels was precluded by its negligence from setting up the forgeries against the Bank, and he accordingly dismissed its action.
10. A majority of the Ontario Court of Appeal (Jessup and Houlden JJ.A.) dismissed the appeal from this judgment for the reasons of Montgomery J. Lacourcière J.A., dissenting, was of the view that it was not open to the trial judge, on the existing authorities and in the absence of a verification agreement, to base a dismissal of the action of CP Hotels on the breach of a duty to examine bank statements with reasonable care and to report discrepancies within a reasonable time. While intimating that the imposition of such a duty might be desirable, he held that it could only be properly imposed by an amendment to s. 49 of the Bills of Exchange Act or by a judgment of this Court departing from "its traditional interpretation of s. 49". I quote his brief dissenting reasons in full because they serve to indicate the general focus of the issue in the appeal:
In my opinion the learned trial judge was not free to dismiss the appellant's action on the basis of its failure to examine the bank statements with reasonable care and to report discrepancies within a reasonable time. In the absence of a verification agreement, no such duty has ever been fastened upon bank customers in Canada. If this is to be done, as I think perhaps it should, it is for Parliament to modify s. 49 of the Bills of Exchange Act, R.S.C. 1970, c. B‑5, along the lines of the United States Uniform Commercial Code, the relevant provisions of which are quoted in Arrow Transfer Co. Ltd. v. Royal Bank of Canada et al., [1972] S.C.R. 845, 27 D.L.R. (3d) 81, [1972] 4 W.W.R. 70. Alternatively, it is open to the Supreme Court of Canada to depart from its traditional interpretation of s. 49. Only in that way will the desirable uniformity be achieved. Unless that is done, a bank which debits a customer's account in respect of forged cheques as the respondent bank did in the present case is liable to the customer in the absence of a suitable verification agreement or other circumstances creating a true estoppel: see Arrow Transfer, supra, at p. 851 S.C.R., p. 84 D.L.R. In my view, the doctrine of stare decisis was departed from by the learned trial judge, albeit in a progressive and well‑ reasoned judgment.
II
11. As suggested by the reasons of Montgomery J. and the dissenting reasons of Lacourcière J.A., the issue in the appeal turns initially on the view which one takes of the judgment of the majority of this Court, delivered by Martland J., and the separate reasons, concurring in the result, of Laskin J. (as he then was) in Arrow Transfer Co. v. Royal Bank of Canada, [1972] S.C.R. 845. In that case the majority of the Court held that the customer was precluded by a verification agreement from recovering the amount debited to its account by the bank pursuant to the payment of cheques on which the customer's signature had been forged. In the course of his judgment for the majority, Martland J. said at p. 851 (the statement to which Larcourcière J.A. was presumably referring): "In the absence of the verification agreement, a bank which debited a customer's account in respect of a forged cheque would be liable to him." Laskin J. was of the view that the verification agreement did not apply to the forged drawing of a cheque, but he found that the customer was precluded by negligence from recovering against the bank. After concluding that the verification agreement did not provide the bank with a defence, Laskin J. said at p. 870: "Is then the Royal Bank's only defence to the claim of the appellant that the latter is (to refer to what is stated in s. 49(1) of the Bills of Exchange Act) precluded from setting up any or all of the forgeries?" After referring to the American law, as reflected in the judgment of the United States Supreme Court in Leather Manufacturers' Bank v. Morgan, 117 U.S. 96 (1886), and in §say 4‑406 of the Uniform Commercial Code (to which Lacourcière J.A. referred), Laskin J. said at p. 873: "I do not think it is too late to fasten upon bank customers in this country a duty to examine bank statements with reasonable care and to report account discrepancies within a reasonable time." In the result, Laskin J. held that the customer was precluded by the breach of a wider duty of care, comparable to the wider duty found by Montgomery J., from recovering against the Bank. It was contended by counsel for CP Hotels, as was apparently assumed by Lacourcière J.A., on the basis of the statement quoted above from the judgment of Martland J., that the majority judgment of this Court in Arrow Transfer decided, in effect, that a customer could not, in the absence of a verification agreement, be precluded from recovering against a bank by the breach of a duty to examine bank statements with reasonable care and to report any discrepancies within a reasonable time. For the reasons indicated more fully in the later discussion of Arrow Transfer, I am of the respectful opinion that this was not the case, and that having based its conclusion on the verification agreement the majority did not purport to address the question raised by Laskin J., which is the issue in the present appeal.
12. While we are not, in my opinion, prevented by the opinion of the majority in Arrow Transfer from adopting the view expressed by Laskin J. in that case, as Montgomery J. did, that result would undoubtedly represent a departure in the law respecting the duties owed by a customer to a bank in respect of the prevention and detection of forgery in the drawing of his cheques, in the absence of a verification agreement. It would involve the recognition of a duty of care extending beyond those that have been recognized by judicial authority in England, as reflected in London Joint Stock Bank v. Macmillan, [1918] A.C. 777 (H.L.), Greenwood v. Martins Bank, Ltd., [1933] A.C. 51 (H.L.), and most recently, Tai Hing Cotton Mill Ltd. v. Liu Chong Hing Bank Ltd., [1986] 1 A.C. 80 (P.C.) These are the duty of a customer to use reasonable care to draw his cheques in such a manner as not to facilitate forgery or material alteration of them, and the duty, upon learning of forgery, to give the bank prompt notification of it. At least until the opinion of Laskin J. in Arrow Transfer, these duties were accepted in Canadian law as indicating the limits, in the absence of a verification agreement, of the customer's duties in respect of the prevention and detection of forgery in the drawing of his cheques. See Columbia Graphophone Co. v. Union Bank of Canada (1916), 38 O.L.R. 326 (H.C.) Montgomery J. acknowledged that he was breaking new ground. Referring to the decisions of this Court in Ewing v. Dominion Bank (1904), 35 S.C.R. 133, Bank of Montreal v. The King (1907), 38 S.C.R. 258 and Arrow Transfer, and the decision of the Ontario High Court in Columbia Graphophone, supra, Montgomery J. said at p. 528:
There is no explicit statement that the customer will be estopped by reason of his own negligence in failing to adequately examine the bank statements or in failing to adequately supervise the fraudulent clerk.
It is to this last point that counsel for the defence addressed a most reasoned and persuasive argument. Can it reasonably be said that principles of law enunciated at the beginning of the century must remain unchanged in the context of the present‑day relationship between an extremely sophisticated commercial customer and his bank?
Counsel for the Bank also conceded in argument that the Court was being invited to extend the customer's duty of care. Referring to the two duties of a customer clearly established by the existing authority, which counsel described as a duty "not to draw a cheque in a manner which might facilitate alteration" and a duty "promptly to report the forgery of his signature on a cheque when he becomes aware of it", counsel for the Bank stated in their factum: "Given these duties, it is but a short and logical step to suggest that a customer who receives a periodic statement of his account (daily in the case of the Appellant) and, more importantly, the original vouchers, should be required to look at them and report discrepancies." Counsel also referred to the trial judge's "extension of the customer's duty of care." Counsel for the Bank did argue an estoppel by silence on the basis of what would amount to imputed knowledge of forgery but this also would appear to involve finding a duty to examine bank statements with reasonable care and to report discrepancies within a reasonable time.
13. The breach of such a contractual duty, if it existed, would in my opinion clearly fall within the meaning of "precluded" in s. 49(1), assuming of course that it could be shown to have caused prejudice or detriment, because it could be properly characterized (as it was in Leather Manufacturers' Bank) as resulting in that species of estoppel by representation often referred to as estoppel by conduct or estoppel by negligence. I am therefore of the view that it is necessary to determine whether such a duty exists. I do not find it necessary or desirable for purposes of the present appeal to express a view as to the extent to which a party may be precluded by negligence under s. 49(1) from setting up a forgery. I am satisfied that whatever be the proper scope and meaning to be assigned to the word "precluded" in s. 49(1) it cannot be construed as freezing the kinds of duties, the breach of which may be properly characterized as resulting in an estoppel by representation.
14. The issue, as I see it, is whether, apart from the question of policy, on which opinions obviously differ, there is a sound basis in law for such a duty. Laskin J. did not address this issue in Arrow Transfer, nor did Montgomery J. explore it in any depth in the present case. It was, however, fully canvassed in relation to a wider duty of care in the judgments of the Hong Kong Court of Appeal and the Judicial Committee of the Privy Council in Tai Hing. The consideration of this issue requires a review of the existing authorities with respect to a customer's duty of care to a bank in respect of the prevention and detection of forgery in the drawing of his cheques.
15. Before undertaking this review something should perhaps be said about the apparent scope, relationship and basis of the two duties affirmed by Montgomery J.: the duty, in the absence of a verification agreement, to examine bank statements with reasonable care and to report any discrepancies within a reasonable time, and the duty to maintain an acceptable system of internal controls for the prevention and minimization of loss through forgery. It would appear that Montgomery J. regarded both of these duties as applicable to the "sophisticated" customer, and that he found the basis for them in "commercial custom" adopted as an implied term of the contract between banker and customer. He began his reasons for judgment with the following question at p. 520: "What is the duty a sophisticated customer owes to its banker?" After referring to what was said by Pratte J. in Bank of Montreal v. Attorney General (Que.), [1979] 1 S.C.R. 565 at pp. 569‑70, concerning the role of commercial custom in the banker and customer relationship, and quoting at length from the opinion of Laskin J. in Arrow Transfer, Montgomery J. said at p. 532:
In my view the majority judgment in Bank of Montreal v. A.‑G. Que., supra, by referring to "commercial custom" permits me to imply the type of duty contemplated by Laskin J. in Arrow Transfer, supra, to the banking relationship between CP and the bank, quite apart from their express banking agreement. I cannot see that a large sophisticated bank customer who receives daily statements of account from its bank, whose daily bank transactions amount to many thousands of dollars, can be absolved of responsibility for checking the accuracy of those statements in respect of cheques bearing forged signatures. If the bank is to be held liable to its customer for honouring cheques bearing forged signatures surely it must be considered a part of commercial custom that the customer take steps to identify forgeries and prevent their recurrence as part of normal business practice. The Price Waterhouse report indicated unequivocally that had CP Hotels followed proper accounting practices and procedures, Sigulim would not have been able to succeed in his scheme. Such practices and procedures necessarily include proper bank reconciliations.
With reference to the requirement of an acceptable system of internal controls, he said at p. 533:
In a commercial context an efficient internal control system is designed to prevent frauds against the corporation without regard to specific provisions of the Bills of Exchange Act. In my opinion a bank dealing with a sophisticated commercial customer has a right to expect that the customer will have such internal controls in place. The customer owes a duty to the bank to operate an acceptable internal control system so that both the bank and its customer are jointly engaged in prevention and minimization of losses occurring through forgeries.
To impose such a duty on a sophisticated customer does not run counter to the spirit of the Bills of Exchange Act . . . .
16. In this Court counsel for the Bank contended chiefly for a duty of general application to examine bank statements with reasonable care and report discrepancies within a reasonable time, as indicated by his opening submission in oral argument that the Court should recognize a duty of the kind set out in §say 4‑406 of the Uniform Commercial Code, although I did not understand him to abandon reliance on a duty to maintain an adequate system of internal accounting controls for the prevention and minimization of loss through forgery.
III
17. I find it convenient to begin the consideration of judicial opinion with reference to the basis of the customer's duties to a bank in respect of the prevention and detection of forgery in the drawing of his cheques with the judgment of the Supreme Court of the United States in Leather Manufacturers' Bank, supra, because it contains an early analysis of the issues of law and policy and has been invoked over the years in the English and Canadian cases by those contending that the customer should have a wider duty of care than that which has been recognized in those cases. Leather Manufacturers' Bank was a case of material alteration by a confidential clerk in which the amounts of cheques were raised after the cheques had been signed by his employer. The customer's pass‑book had been returned to him at intervals with his cancelled cheques, but the necessary bank reconciliation was left to the clerk who, among other things, destroyed the cheques that had been altered, with the result that the fraud remained concealed for several months. It was a case of an employee's being left in complete control of the verification of the pass‑book and vouchers and the accounting records on which such verification would have to be based. The principle or rule to be derived from the reasons of the Supreme Court in this case is conveniently stated in the head‑note as follows: "A depositor in a bank, who sends his pass‑book to be written up and receives it back with entries of credits and debits and his paid checks as vouchers for the latter, is bound personally or by an authorized agent, and with due diligence, to examine the pass‑book and vouchers, and to report to the bank, without unreasonable delay, any errors which may be discovered in them; and if he fails to do so, and if the bank is thereby misled to its prejudice, he cannot afterwards dispute the correctness of the balance shown by the pass‑book." Interestingly, in view of the subsequent development of English law on this question, Harlan J., who delivered the opinion of the Supreme Court, relied in part on two English cases: Devaynes v. Noble (generally referred to as Clayton's Case) (1816), 1 Mer. 529, 35 E.R. 767, and Freeman v. Cooke (1848), 2 Ex. 654, 154 E.R. 652. He relied on these cases with reference to usage as the basis of the customer's duty and to estoppel as the result of a breach of that duty. With reference to Devaynes v. Noble, Harlan J. said at pp. 106‑07:
In Devaynes v. Noble, 1 Meriv. 530, 535, it appeared that the course of dealing between banker and customer, in London, was the subject of inquiry in the High Court of Chancery as early as 1815. The report of the master stated, among other things, that for the purpose of having the pass‑book "made up by the bankers from their own books of account, the customer returns it to them from time to time as he thinks fit; and, the proper entries being made by them up to the day on which it is left for that purpose, they deliver it again to the customer, who thereupon examines it, and if there appears any error or omission, brings or sends it back to be rectified; or, if not, his silence is regarded as an admission that the entries are correct." This report is quite as applicable to the existing usages of this country as it was to the usages of business in London at the time it was made. The depositor cannot, therefore, without injustice to the bank, omit all examination of his account, when thus rendered at his request. His failure to make it or to have it made, within a reasonable time after opportunity given for that purpose, is inconsistent with the object for which he obtains and uses a pass‑book.
With reference to Freeman v. Cooke, in which Parke B. stated the conditions for estoppel by representation, Harlan J. placed particular reliance on the words, "and conduct, by negligence or omission, where there is a duty cast upon a person, by usage of trade or otherwise, to disclose the truth, may often have the same effect." After referring to American decisions illustrating the application of what he variously spoke of as "estoppel by conduct" and "estoppel by negligence", Harlan J. stated the applicable principle as follows at p. 112:
These cases are referred to for the purpose of showing some of the circumstances under which the courts, to promote the ends of justice, have sustained the general principle that, where a duty is cast upon a person, by the usages of business or otherwise, to disclose the truth‑‑which he has the means, by ordinary diligence, of ascertaining‑‑and he neglects or omits to discharge that duty, whereby another is misled in the very transaction to which the duty relates, he will not be permitted, to the injury of the one misled, to question the construction rationally placed by the latter upon his conduct. This principle commends itself to our judgment as both just and beneficent....
With reference to what counsel for the Bank in the present case called the "short step", Harlan J. said at p. 113: "But if the evidence showed that the depositor intentionally remained silent, after discovering the forgeries in question, would the law conclusively presume that he had acquiesced in the account as rendered, and infer previous authority in the clerk to make the checks, and yet forbid the application of the same principle where the depositor was guilty of neglect of duty in failing to do that, in reference to the account, which he admits would have readily disclosed the same fraud? It seems to the court that the simple statement of this proposition suggests a negative answer to it." There is also reference in the judgment of Harlan J. to ratification or adoption, as distinct from estoppel, as the basis on which the customer was precluded from setting up the alterations against the bank, but in the end the case appears to have been treated as one of estoppel by negligence, as indicated by the following statement at the end of the judgment of Harlan J. at p. 122: "Whether the plaintiffs are estopped, by the negligence of their representative, to dispute the correctness of the account as rendered by the bank from time to time, is, in view of all the circumstances of this case, a mixed question of law and fact." There was further reference to negligence in the following statement concerning the issue of policy at pp. 115‑16: "In their relations with depositors, banks are held, as they ought to be, to rigid responsibility. But the principles governing those relations ought not to be so extended as to invite or encourage such negligence by depositors in the examination of their bank accounts, as is inconsistent with the relations of the parties or with those established rules and usages, sanctioned by business men of ordinary prudence and sagacity, which are or ought to be known to depositors." With reference to the standard of care required of the customer in the examination of his pass‑book and vouchers, Harlan J. said at p. 116:
We must not be understood as holding that the examination by the depositor of his account must be so close and thorough as to exclude the possibility of any error whatever being overlooked by him. Nor do we mean to hold that the depositor is wanting in proper care, when he imposes upon some competent person the duty of making that examination and of giving timely notice to the bank of objections to the account. If the examination is made by such an agent or clerk in good faith and with ordinary diligence, and due notice given of any error in the account, the depositor discharges his duty to the bank. But when, as in this case, the agent commits the forgeries which misled the bank and injured the depositor, and, therefore, has an interest in concealing the facts, the principal occupies no better position than he would have done had no one been designated by him to make the required examination‑‑without, at least, showing that he exercised reasonable diligence in supervising the conduct of the agent while the latter was discharging the trust committed to him. In the absence of such supervision, the mere designation of an agent to discharge a duty resting primarily upon the principal, cannot be deemed the equivalent of performance by the latter. While no rule can be laid down that will cover every transaction between a bank and its depositor, it is sufficient to say that the latter's duty is discharged when he exercises such diligence as is required by the circumstances of the particular case, including the relations of the parties, and the established or known usages of banking business.
The Court further held that the customer would not be estopped by negligence from setting up the forgeries if the bank had itself been negligent in paying the forged or altered cheques. Harlan J. said at p. 112: "Of course, if the defendant's officers, before paying the altered checks, could by proper care and skill have detected the forgeries, then it cannot receive a credit for the amount of those checks, even if the depositor omitted all examination of his account."
18. The common law rule, as affirmed in Leather Manufacturers' Bank and other American decisions before the adoption of the Uniform Commercial Code, was summed up in Glassell Development Co. v. Citizens' National Bank of Los Angeles, 191 Cal. 375 (1923), as follows at p. 380:
And the weight of authority, and perhaps of reason, supports the view that when a depositor's pass‑book has been written up and returned to him with canceled checks which have been charged to his account, it is his duty to examine such checks within a reasonable time, and if they disclose forgeries or alterations to report them to the bank, failing in which he cannot, if his failure results in detriment to the bank, dispute the correctness of payments thereafter made by it on similar checks . . . .
This rule, however, assumes that the bank itself has not been guilty of negligence in making the payment, for when by the exercise of proper care it could have discovered the alteration or forgery, it must bear the loss notwithstanding that the depositor failed in his duty to examine the accounts . . . .
An important feature of the common law rule, before the adoption of the Uniform Commercial Code, was that a bank, in order to be able to rely on the negligence of the customer, had the burden first of showing that it had not been negligent in failing to detect the forgery or alteration. In Basch v. Bank of America, 22 C.2d 316 (1943) at p. 322, the following statement in 7 Am. Jur., Banks, §say 516 of this aspect of the rule was accepted as authoritative:
...a bank which is guilty of negligence in failing to discover an alteration or forgery cannot avoid liability on the ground that the depositor was negligent in failing to examine his balanced passbook, statement of account, or returned checks. Consequently, in every case where suit is brought by a depositor to recover from a bank money deposited by him, which the bank has paid out otherwise than in conformity with his orders, and the bank sets up the defense that it is nevertheless entitled to charge the depositor with such payments because of conduct of the depositor subsequent to such payment, the preliminary question to be determined is whether the bank was or was not guilty of negligence in making the payments. If it was negligent, if its officers are found to have failed to exercise due and reasonable care in detecting the forgery or fraud, then the subsequent negligence of the depositor, his failure to perform his duty in examining his passbook and vouchers with reasonable care and to report to the bank in a reasonable time any errors or mistakes, will constitute no defense.
In Pacific Coast Cheese, Inc. v. Security First National Bank of Los Angeles, 286 P.2d 353 (Cal. S.C. 1955), which was quoted by Laskin J. in Arrow Transfer, it was said at p. 355: "When it appears that a bank has made payment on the basis of an altered or forged check, the burden is on the bank to justify the charge by establishing, as an affirmative defense, both that it was free from negligence and that the depositor was negligent or was estopped to deny the correctness of the payments." It was held that the evidence with respect to the absence of negligence by the bank in failing to detect material alterations did not warrant a directed verdict in its favour.
19. As codified in §say 4‑406 of the Uniform Commercial Code, the American rule, with the burden of proving negligence by the bank now on the customer, reads as follows:
(1) When a bank sends to its customer a statement of account accompanied by items paid in good faith in support of the debit entries or holds the statement and items pursuant to a request or instructions of its customer or otherwise in a reasonable manner makes the statement and items available to the customer, the customer must exercise reasonable care and promptness to examine the statement and items to discover his unauthorized signature or any alteration on an item and must notify the bank promptly after discovery thereof.
(2) If the bank establishes that the customer failed with respect to an item to comply with the duties imposed on the customer by subsection (1) the customer is precluded from asserting against the bank
(a) his unauthorized signature or any alteration on the item if the bank also establishes that it suffered a loss by reason of such failure; and
(b) an unauthorized signature or alteration by the same wrongdoer on any other item paid in good faith by the bank after the first item and statement was available to the customer for a reasonable period not exceeding fourteen calendar days and before the bank receives notification from the customer of any such unauthorized signature or alteration.
(3) The preclusion under subsection (2) does not apply if the customer establishes lack of ordinary care on the part of the bank in paying the item(s).
(4) Without regard to care or lack of care of either the customer or the bank a customer who does not within one year from the time the statement and items are made available to the customer (subsection (1)) discover and report his unauthorized signature or any alteration on the face or back of the item or does not within 3 years from that time discover and report any unauthorized indorsement is precluded from asserting against the bank such unauthorized signature or indorsement or such alteration.
It is this rule, reflecting a legislative adjustment of liability or allocation of loss, that counsel for the Bank, at the outset of his oral argument, invited the Court to adopt.
IV
20. I turn to a consideration of the English and Canadian decisions, prior to Arrow Transfer, concerning a customer's duties to his bank in respect of the prevention and detection of forgery or alteration in the drawing of his cheques. The basis in principle of the customer's duty to draw his cheques in such a manner as not to facilitate forgery or alteration, as ultimately affirmed in Macmillan, supra, was suggested in Young v. Grote (1827), 4 Bing. 253, 130 E.R. 764, where the Court of Common Pleas held that a customer was precluded by negligence from setting up a material alteration against his bank when he had left a cheque signed in blank with his wife, who had filled it up in such a manner as to permit the amount to be raised. Best C.J. quoted in support of his conclusion a statement of principle by Pothier from the law of mandate, as applied to the banker and customer relationship. He said at p. 258 Bing., 766 E.R.:
Undoubtedly, a banker who pays a forged check, is in general bound to pay the amount again to his customer, because, in the first instance, he pays without authority. On this principle the two cases which have been cited were decided, because it is the duty of the banker to be acquainted with his customer's hand‑writing, and the banker, not the customer, must suffer if a payment is made without authority.
But though that rule be perfectly well established, yet if it be the fault of the customer that the banker pays more than he ought, he cannot be called on to pay again. That principle has been well illustrated by Potier [sic], in commenting on the case put by Scacchia [and here I reproduce the passage quoted by Best C.J. from Pothier, as it appears, with the exact reference, at p. 792 of Macmillan.] "Cependant, si c'était par la faute du tireur que le banquier eût été induit en erreur, le tireur n'ayant pas eu le soin d'écrire sa lettre de manière à prévenir les falsifications, puta, s'il avait écrit en chiffres la somme tirée par la lettre, et qu'on eût ajouté zéro, le tireur serait, en ce cas, tenu d'indemniser le banquier de ce qu'il a souffert de la falsification de la lettre, à laquelle le tireur, par sa faute, a donné lieu; c'est à ce cas qu'on doit restreindre la décision de Scacchia."
In Macmillan, Lord Finlay L.C. approved the adoption of this statement of principle in Pothier as the basis of the decision in Young v. Grote, the proper rationale of which had been for many years a matter of differing judicial opinion, and said at p. 792: "This passage appears to me to be strictly relevant to the case of banker and customer with which Best C.J. was dealing and to embody the principles of English as well as of the civil law." The duty that was affirmed was the contractual duty of a customer to draw his mandate in such a manner as not to mislead his bank. The duty was restated by Lord Finlay L.C. in Macmillan as follows at p. 789:
The relation between banker and customer is that of debtor and creditor, with the superadded obligation on the part of the banker to honour the customer's cheques if the account is in credit. A cheque drawn by a customer is in point of law a mandate to the banker to pay the amount according to the tenor of the cheque. It is beyond dispute that the customer is bound to exercise reasonable care in drawing the cheque to prevent the banker being misled. If he draws the cheque in a manner that facilitates fraud, he is guilty of a breach of duty between himself and the banker, and he will be responsible to the banker for any loss sustained by the banker as a natural and direct consequence of this breach of duty.
The customer's duty appears to have been regarded as the necessary counterpart of the banker's duty or obligation to honour the customer's cheques. Viscount Haldane put it thus in Macmillan at p. 814:
But the customer of a bank is under a yet more specific duty. The banker contracts to act as his mandatory and is bound to honour his cheques without delay to the extent of the balance standing to his credit. The customer contracts reciprocally that in drawing his cheques on the banker he will draw them in such a form as will enable the banker to fulfil his obligation, and therefore in a form that is clear and free from ambiguity. The correlative obligation is thus complementary to the obligation of the mandatory to apply the balance in paying without delay the cheques as and when presented to him.
21. There was a possible suggestion in the reasons of Best C.J. and Park J. in Young v. Grote that the negligence for which the customer was held to be responsible was viewed not only as the negligence of his wife, acting as his agent, but his own negligence in leaving cheques signed in blank, with authority to fill them up, with an inexperienced person. This would have suggested a wider duty of care with respect to the drawing of cheques than that which was ultimately affirmed in Macmillan. In subsequent cases, however, such a wider duty was rejected, and it was held that in order to preclude recovery the negligence must be in the transaction, that is, in the mode of drawing the instrument, and must be the proximate cause of the loss. This qualification of the duty of care with respect to the prevention of forgery is reflected in Bank of Ireland v. Evans' Trustees (1855), 5 H.L.C. 389, 10 E.R. 950, and Swan v. North British Australasian Co. (1863), 2 H. & C. 175, 159 E.R. 73, which involved fraudulent share transfers but were applied in subsequent cases involving negotiable instruments. In Bank of Ireland, it was held that the alleged negligence in the custody of the corporate seal was too remote from the share transfer by powers of attorney to which the seal had been fraudulently affixed to give rise to an estoppel by negligence. With respect to the contention that there should be a wider duty of care, Parke B. said at pp. 410‑11 M. & W. and at p. 959 E.R.: "If such negligence could disentitle the Plaintiffs, to what extent is it to go? If a man should lose his cheque‑book, or neglect to lock the desk in which it is kept, and a servant or stranger should take it up, it is impossible in our opinion to contend that a banker paying his forged cheque would be entitled to charge his customer with that payment." In Swan, which involved the fraudulent transfer of shares by means of share transfers signed in blank, the court, quoting with approval what was said concerning estoppel by Parke B. in Freeman v. Cooke, emphasized that for negligence to preclude recovery there must have been a duty, and reaffirmed, with reference to Bank of Ireland, that it must be negligence in the transaction and must be the proximate cause of the other party's having been misled.
22. The principle that the negligence must be in the transaction, that is, in the mode of drawing the cheque or other negotiable instrument, and must be the proximate cause of the bank's having been misled, was applied in Arnold v. Cheque Bank (1876), 1 C.P.D. 578, and Agricultural Savings and Loan Association v. Federal Bank (1881), 6 O.A.R. 192, both of which involved forged endorsements. The alleged negligence in Arnold was in the custody and transmission of a bank draft which had been endorsed by the plaintiffs and put in a letter box outside their office for transmission through the mails without a letter of advice by separate post. The draft was stolen by the plaintiff's clerk, who forged the endorsement of the endorsee. It was held that, even if the practice adopted by plaintiffs in the custody and transmission of the draft could be said to be negligence facilitating the fraud, it could not be negligence which precluded the plaintiffs from recovery, on the principle affirmed in Bank of Ireland and Swan. Lord Coleridge C.J. said at p. 588: "No authority whatever was cited to us for the contention that negligence in the custody of the draft will disentitle the owner of it to recover it or its proceeds from a person who has wrongfully obtained possession of it. Here, there was nothing in the draft or the endorsement with which the plaintiff had anything to do, calculated in any way to mislead the defendants. It was regularly indorsed, and was then inclosed in a letter to the plaintiffs' correspondents, to be sent through the post. There could be no negligence in relying on the honesty of their servants in the discharge of their ordinary duty, that of conveying letters to the post; nor can there be any duty to the general public to exercise the same care in transmission of the draft as if any or every servant employed were a notorious thief." Referring to the statement by Parke B. in Bank of Ireland quoted above, beginning, "If such negligence could disentitle the plaintiffs, to what extent is it to go?", Lord Coleridge C.J. said at pp. 589‑90: "If it were the duty of the plaintiffs to guard against larceny and forgery in that way, it is impossible to say where, as observed by Parke B. in Bank of Ireland v. Evans's Charities, on that principle, it is to stop." Agricultural Savings and Loan involved the forged endorsement of cheques as part of a fraudulent mortgage loan transaction. The Ontario Court of Appeal applied Bank of Ireland and Arnold in holding that the customers were not estopped by negligence from setting up the forgeries against the bank because the negligence was not in the cheque transaction, as distinct from the mortgage loan transaction as a whole. Burton J.A., after referring to the rejection of a general duty of care by Parke B. in Bank of Ireland, said at p. 200: ". . . it appears now to be clearly established that the negligence which can operate by way of estoppel must be in the transaction itself and must be the proximate cause of leading the party into the mistake, and must also be the neglect of some duty that is owing to the person led into that belief, and not merely neglect of what would be prudent in respect to the party himself, or even of some duty owing to third persons with whom those seeking to set up the estoppel are not privy."
23. In the celebrated case of Bank of England v. Vagliano, [1891] A.C. 107, there was an issue of estoppel by negligence which occasioned statements in the House of Lords from which it might have been inferred that a customer owed a wider duty of care to his bank in respect of the prevention and detection of forgery than that which was affirmed by later authority. I refer to the statements here because counsel for the Bank placed some reliance on them. Vagliano accepted bills of exchange, payable at the Bank of England, on which his clerk, Glyka, had forged the signature of the drawer, Vucina & Co., a firm with which Vagliano did business. The clerk made the bills payable to C. Petridi & Co., also an existing firm known to Vagliano, but whose name was inserted as payee by way of pretence only with no intention that they should receive payment. The clerk forged the endorsements of the payee and appropriated the proceeds of the bills. Vagliano sought to recover the amount of the bills from the bank as having been paid without authority. The acceptor was clearly estopped, on well‑established principle, from denying the genuineness of the drawer's signature. The issue was whether he could set up the forged endorsements against the bank. There were two questions: (a) whether, despite the acceptor's lack of knowledge or intention that the payee was named in the bill by way of pretense only, the payee, although an existing person, was nevertheless fictitious within the meaning of the Bills of Exchange Act and the bills therefore to be treated as payable to bearer, making an endorsement by the payee unnecessary; and (b) whether, in any event, the acceptor was estopped by his conduct from setting up the forgery of the payee's endorsement against the bank. The conduct on which the bank relied for an estoppel by representation included not only the repeated acceptance by Vagliano of bills apparently drawn by Vucina & Co., without verification whether there was money owing to the drawer, as well as repeated advice notices to the bank indicating the bills to be paid, but also the lack of supervision of the clerk and the return of the pass‑book without objection. In the Court of Appeal ((1889), 23 Q.B.D. 243), Lord Esher M.R., who dissented on the issue whether the payee was fictitious, said at p. 255 that there was negligence in the lack of supervision of the clerk, but that it "was too remote from the loss suffered by the bank to enable the bank to rely on it". It was not the proximate cause of the bank's loss. Bowen L.J., delivering the judgment of the majority in the Court of Appeal, was of the same view, saying at pp. 262‑63: "There was no evidence of negligence on the part of the plaintiff which so directly caused the frauds in question in this action as to prevent the plaintiff from succeeding in his claim. There was, we think, negligence on his part in leaving so much to a clerk in Glyka's position without any effective supervision or control over his proceedings. But this was not the proximate cause of the loss which has been incurred, and therefore cannot be relied on as a defence against the claim of the plaintiff, even if there were no negligence on the part of the bank." Bowen L.J. further held that the return of the pass‑book without objection did not result in a settled account between the customer and his bank. In the House of Lords five of the eight members who sat on the case held in favour of the bank on the ground that the payee was fictitious. Three of them, and another member of the majority, were also of the view that the acceptor was precluded by his conduct from setting up the forged endorsements against the bank. The two dissenting members rejected both grounds for denying recovery to the acceptor. Of those who took the view that the acceptor was estopped by his conduct, Lord Halsbury L.C. expressed himself in the broadest terms, and it is on his statements that counsel for the Bank placed some reliance. Lord Halsbury stated the general principle applicable in such a case as follows at p. 114: ". . . a principal who has misled his agent into doing something on his behalf which the agent has honestly done, would not be entitled to claim against the agent in respect of the act so done; and upon this branch of the case the question is whether the agent was misled into doing the act by the default of the principal", and at p. 115 he acknowledged the limited scope of this principle as follows: ". . . the carelessness of the customer, or neglect of the customer to take precautions, unconnected with the act itself, cannot be put forward by the banker as justifying his own default." But then Lord Halsbury went on to distinguish the Bank of Ireland case as follows at pp. 115‑16:
In order to make the cases of the Bank of Ireland v. Trustees of Evans' Charities [5 H.L.C. 389], and the Mayor, &c., of Merchants of the Staple of England v. Bank of England [21 Q.B.D. 160] authorities in this case, it would be necessary to assume that the plaintiffs in those cases had by some voluntary act of their own given credit and the appearance of genuineness to the particular powers of attorney which were forged in those cases, and if they had, I very much doubt whether the decision would have been what it was; but no such fact appeared; all the parties whose negligence was relied on had done, was to leave their seal carelessly in the custody of the person who abused his trust. These decisions therefore do not seem to me to touch the case.
But how can it be said in this case that the default is unconnected with the act? The very thing which the banker does is induced by the fault of the customer. Was not the customer bound to know the genuineness of Vucina's draft? Was not the customer bound to know whether there was any real transaction between himself and Vucina, effected by the instrument in question? Was not the customer bound to know the contents of his own pass‑book? Was not the customer bound to know the state of his account with Vucina? It certainly is very strange that it should be suggested that without any responsibility on his part he should be entitled to accredit forty‑three documents to his bankers as genuine bills when he had the means of knowledge I have indicated that no one of them was a bill of exchange at all, or represented any transaction between Vucina and himself.
The bankers paid upon these documents and they paid a person who was not entitled to receive the money. There was no person entitled to receive it. The fact that it reached their hands as representing a mercantile transaction in which somebody was to be paid was itself a misleading of them; and that it did reach their hands purporting to represent such a transaction arose from the mode in which Mr. Vagliano's business was conducted by those responsible for it.
In effect, Lord Halsbury was of the view that Vagliano's conduct, taken as a whole, amounted to a representation that the bills were in every respect, including the endorsement of the payee, genuine. This appears to have been the view of the other members of the House of Lords who held that Vagliano was estopped from setting up the forgeries of the payee's signature. This possible implication of a wider duty of care, however, was not adopted by subsequent authority. In Macmillan, the only reference to Lord Halsbury's speech in Vagliano was by Lord Parmoor at pp. 834‑35 to the statement which I have quoted above: "The carelessness of the customer, or neglect of the customer to take precautions, unconnected with the act itself, cannot be put forward by the banker as justifying his own default."
24. In Kepitigalla Rubber Estates, Ltd. v. National Bank of India, [1909] 2 K.B. 1010, Bray J., in a judgment that was approved by the House of Lords in the Macmillan case, considered the customer's duty of care both before and after forgery of the signature of signing officers on its cheques. The company's cheques required the signature of two directors and the secretary. The bank honoured cheques on which the signatures of directors had been forged by the secretary. During the two‑month period in which the forgeries were perpetrated the company's pass‑book was taken out and returned to the bank without objection to the entries related to the forged cheques. It was contended for the bank that the company was precluded from setting up the forgeries by breach of a duty of care in issuing the cheques which had the effect of misleading the bank. It was said that the directors who signed the cheques had acted negligently and that there had not been proper supervision of the secretary. It was also contended that the taking out of the pass‑book and its return to the bank without objection to the entries related to the forged cheques amounted to a settlement of account between the customer and the bank. Bray J. expressed the first contention, respecting a general duty of care, as follows at p. 1021: "They contended, first, that it was the duty of the plaintiffs to them, as their bankers and as part of the contract between them, (a) to use reasonable care in the issuing of mandates to the defendants, and (b) in the carrying out of their business relating to the issuing of mandates, and if they delegated these duties to another, they must use reasonable care to supervise the execution of the duties and to prevent the delegation from being abused." With respect to the second contention, it was argued that a customer was bound to examine entries in the pass‑book when he received it and to report any errors in it, and that if he failed to do so and the bank was thereby misled to its prejudice, he could not afterwards dispute the correctness of the balance shown in the pass‑book. The decision of the United States Supreme Court in Leather Manufacturers' Bank v. Morgan was referred to in support of both contentions.
25. With respect to the first contention, Bray J. held that the customer's duty of care was limited to the drawing of his cheques in a manner that would not cause the bank to be misled. He held, applying Bank of Ireland and Swan, that for a breach of this duty "the negligence must be in or immediately connected with the transaction itself and must have been the proximate cause of the loss." He held that there was no authority for the wider duty of care contended for by the bank and no basis for implying it as a term of the contract between banker and customer, but he found as a fact that even if such a duty existed there had not been a breach of it. He said at p. 1026: "They have not taken all the precautions that were possible and probably not all that a good many companies do take, but I think they took reasonable precautions." The following passage in the judgment of Bray J. at pp. 1025‑26 indicates the reasons of principle and policy which led him to reject the wider duty of care contended for by the bank:
I think Mr. Scrutton's contention equally fails when it is considered apart from authority. It amounts to a contention on the part of the bank that its customers impliedly agreed to take precautions in the general course of carrying on their business to prevent forgeries on the part of their servants. Upon what is that based? It cannot be said to be necessary to make the contract effective. It cannot be said to have really been in the mind of the customer, or, indeed, that of the bank, when the relationship of banker and customer was created. What is to be the standard of the extent or number of the precautions to be taken? Applying it to this case, can it be said to have been in the minds of the directors of the company that they were promising to have the pass‑book and the cash‑book examined at every board meeting, and to have a sufficient number of board meetings to prevent forgeries, or that the secretary should be supervised or watched by the chairman? If the bank desire that their customers should make these promises they must expressly stipulate that they shall. I am inclined to think that a banker who required such a stipulation would soon lose a number of his customers. The truth is that the number of cases where bankers sustain losses of this kind are infinitesimal in comparison with the large business they do, and the profits of banking are sufficient to compensate them for this very small risk. To the individual customer the loss would often be very serious; to the banker it is negligible.
26. With respect to the second contention, Bray J. held that there was no authority for the proposition that "when a pass‑book is taken out of the bank by the customer or some clerk of his and returned without objection there is a settled account between the bank and the customer by which both are bound." With reference to Leather Manufacturers' Bank, he said at p. 1028: "I do not think it necessary to say more about that case than that the facts as stated in paragraph 5 on page 100 are quite sufficient to distinguish it from the present case, and that it has never been acknowledged by any Court or judge in this country as correctly stating our law." It may be that one of the facts to which Bray J. attached particular importance in the paragraph he referred to was that, unlike the English practice, in Leather Manufacturers' Bank the customer's cancelled cheques had been returned with the pass‑book. In any event, Bray J. indicated that he did not, as a matter of policy, favour holding the customer responsible for the fraudulent concealment of a forgery by an employee. He said at p. 1029: "Apart from authority one has only to look at the facts of this case to see how absurd it would be to hold that the taking out of the pass‑book and its return constituted a settled account. It would mean this, that a secretary of a company, by going to the bank for his own purposes in order to prevent the discovery of his own fraud, and without any knowledge on the part of any of the directors, and getting the pass‑book (with a pencil entry in it of the balance), can bind the company for all purposes."
27. In Macmillan, which was a case of material alteration facilitated by the drawer's having left spaces permitting the amount to be raised, the House of Lords affirmed that the customer owed a duty of care to his bank to draw his cheques in such a manner as not to facilitate forgery or material alteration, but it rejected any wider duty of care, reaffirming what had been laid down in earlier cases, such as Bank of Ireland and Swan, that the negligence, in order to estop the customer or otherwise preclude recovery, must be in the transaction itself and be the proximate cause of the loss. With reference to this point, Lord Finlay L.C. said at p. 795: "Of course the negligence must be in the transaction itself, that is, in the manner in which the cheque is drawn. It would be no defence to the banker, if the forgery had been that of a clerk of a customer, that the latter had taken the clerk into his service without sufficient inquiry as to his character. Attempts have often been made to extend the principle of Young v. Grote beyond the case of negligence in the immediate transaction, but they have always failed." To similar effect Viscount Haldane said at pp. 815‑16: "Thus a man may be imprudent in leaving his cheque‑book and pass‑book in the hands of his clerk who is thereby enabled to forge a cheque. But he is not liable, for this reason, that the direct and real cause of the loss is the intervention of an act of wickedness on the part of the clerk, which the law does not call on him to anticipate in the absence of obvious ground for suspicion. In Kepitigalla Rubber Estates v. National Bank of India Bray J. states the principle with conspicuous lucidity." Lord Finlay L.C. also referred with approval at p. 801 to the judgment of Bray J. in Kepitigalla, which he said stood for the proposition "that to afford a defence to the banker the breach of duty must be, as in Young v. Grote, in connection with the drawing of the order or cheque, and that there is no obligation as between customer and banker that the person should take precautions in the general carrying on of his business or in examining and checking the pass‑book." In Macmillan, Lord Finlay L.C. at pp. 793‑94 and Viscount Haldane at p. 818 noted that the breach of the customer's duty to draw his cheques in such a manner as not to facilitate material alteration could be characterized as resulting in an estoppel by conduct or negligence or, alternatively, as suggested by Cockburn C.J. in Swan, as creating a defence of negligence that must be made available to the bank to avoid circuity of action. One explanation of the requirement that the negligence be in the transaction and be the proximate cause of the loss is that it must result in a representation concerning the instrument that causes prejudice or detriment.
28. Reference should now be made to the English and Canadian cases recognizing a duty to inform a bank promptly upon learning of forgery or material alteration to determine what conclusions are to be drawn from them concerning the issue in the appeal. There are several things to be noted about these cases. They stand for the principle that an estoppel by representation will result from silence where there is a duty to speak. They recognize that such a duty may arise where there is no contractual relationship. In such a case the duty has been based on usage or on a principle of fair dealing. The cases were all cases in which there was actual knowledge of the forgery or alteration. I do not find in them an implication that the duty will arise, as was held in Leather Manufacturers' Bank, where there is not actual knowledge, but the means, by the exercise of reasonable care, of learning of the forgery or alteration. The consideration of these cases which follows is with particular reference to the points I have noted.
29. In M`Kenzie v. British Linen Co. (1881), 6 App. Cas. 82, the House of Lords recognized that a person who knew that his signature to a bill of exchange had been forged and that a bank was relying on the genuineness of his signature could in principle be estopped by his silence from setting up the forgery against the bank, although he was not in a contractual relationship with the bank. It was held, however, that he was not estopped because his silence had not prejudiced the bank. What was said by Parke B. concerning estoppel in Freeman v. Cooke was approved, and Lord Watson spoke of the basis of the duty to speak in such circumstances in terms which assumed knowledge of the forgery as follows at p. 109: "The only reasonable rule which I can conceive to be applicable in such circumstances is that which is expressed in carefully chosen language by Lord Wensleydale in the case of Freeman v. Cooke. It would be a most unreasonable thing to permit a man who knew the bank were relying upon his forged signature to a bill, to lie by and not to divulge the fact until he saw that the position of the bank was altered for the worse. But it appears to me that it would be equally contrary to justice to hold him responsible for the bill because he did not tell the bank of the forgery at once, if he did actually give the information, and if when he did so, the bank was in no worse position than it was at the time when it was first within his power to give the information."
30. In Ogilvie v. West Australian Mortgage, and Agency Corp., [1896] A.C. 257 (P.C.), Lord Watson referred to a duty to speak which might arise from the "rules of fair dealing between man and man", but again it was a case in which the duty arose from actual knowledge. It was held that a customer was not estopped by his silence from setting up forgeries of his signature against his bank because in the particular circumstances of the case he did not have a duty to speak. An agent of the bank, who already knew of the forgeries, had asked the customer not to make them public. There was a question whether in these circumstances the customer had a duty to inform the directors of the bank of the forgeries. It was held that in the absence of ground for suspicion or belief that the agent was acting contrary to the interests of the bank there was no such duty. Lord Watson said at p. 269: "The respondent's counsel were unable to refer to any rule of law which, in the absence of any such suspicion or belief, imposed a duty upon the appellant to carry the information which he had received to the directors of the bank; and it does not appear to their Lordships that any such duty was required of him by the rules of fair dealing between man and man."
31. In Ewing v. Dominion Bank, which, like M`Kenzie, was a case in which estoppel was considered in the absence of a contractual relationship of banker and customer, a majority of this Court (Girouard, Davies and Killam JJ.) held that Ewing & Co., whose name had been forged as makers of a promissory note and who had received notice from the bank that it held the note and that payment should be provided at the bank on due date, were estopped by their silence, while they attempted to settle the matter with the forger, from setting up the forgery against the bank, because by prompt notice by the fastest available means on learning of the forgery they could have saved the bank from at least part of its loss. Reliance was placed on the statement of the law with respect to estoppel in Freeman v. Cooke, in particular, the words "and conduct, by negligence or omission, when there is a duty cast upon a person, by usage of trade or otherwise, to disclose the truth, may often have the same effect", and it was held that the principle was not confined to cases in which there was a contractual relationship. The implication is that the duty was regarded in this case as one imposed by business usage or practice. Girouard J. said at p. 143: "Speaking for myself, I cannot satisfy my mind that when a business man, familiar with banking operations, their meaning and scope, is informed, according to banking usages, that his name is being used as maker of a note in a bank, evidently for cash credit either already made or to be made, he is under no obligation to reply promptly, at least within a reasonable time, that it is used without his authority, or even that it is a forgery." Referring to the statement concerning estoppel by Parke B. in Freeman v. Cooke, Davies J. said at pp. 151‑52:
Both parties profess to rely upon this rule in this case though I cannot find that any one of the limitations mentioned in it express or suggest the existence of the relationship of banker and customer or similar relationship as necessary to create the duty the neglect of which imposes the liability. It speaks of a neglect of duty cast upon a person by the usage of trade or otherwise to disclose the truth. I fail to appreciate the argument which would confine this duty to cases where such relationships already exist as those between banker and customer or seller and buyer. It does seem to me that in a country like Canada where such a large proportion of its business is carried on by credit evidenced by drafts and notes which are discounted by one or other of the chartered banks of the country the usages of trade which create the duty apply to all persons engaged in trade who are notified of the holding by one of these banks of a note or draft professing to be theirs. I cannot believe that such a duty would exist as between the bank and Ewing & Co. if the latter was a regular customer of the former and would not exist otherwise. It seems to me the duty naturally arises out of the usages of trade as they exist. Banks do not confine their discounts to those of their own customers only. It is known to every one engaged in trade that a large part of the bank's business consists in the discounting for its customers of commercial paper professing to be that of other merchants or traders. And when a business man receives such a notice from a bank as Ewing & Co. did in this case, if such notice contains information of a forgery and fraud being practised upon a bank, in the unauthorized use of the name of the person or persons notified, the latter are bound by every principle of justice and right dealing between man and man, and in accordance with the usages of trade, within reasonable time to give the bank notice of the fraud. Any other rule would seem to me to be fraught with grave danger; would generate want of confidence in the ordinary business relations of life and would offer a premium upon gross business negligence.
There is the question whether it is an implication of the decision in Ewing that there arose upon receipt of the notice from the bank a duty to determine whether the signature to the note was authorized, as well as a duty, upon learning of the forgery, to notify the bank of it, and that for this reason the decision lends support for a duty to examine bank statements and vouchers with reasonable care and to report any discrepancies within a reasonable time. I think that the analysis of the duty in Ewing proceeded upon the assumption that Ewing & Co. knew the day they received the notice from the bank that their signature to the note was unauthorized and indeed had been forged, and that the duty that was being affirmed was the duty to notify the bank promptly of the forgery upon learning of it. There was no question of a failure to verify the genuineness of the signature with reasonable care or within a reasonable time. The breach of duty was the failure to notify the bank promptly of the forgery when such notification could have, in the opinion of the majority of the Court, saved the bank from at least part of the loss. It was the affirmation of a duty that arose upon the acquisition of actual knowledge of the forgery and not from imputed knowledge of it. Osler J.A. in the Court of Appeal (1904), 7 O.L.R. 90, whose judgment was affirmed by the majority in this Court, referred [at p. 97], in support of the applicable principle of estoppel, to the statement of Lord Watson in M`Kenzie v. British Linen Co., supra, at p. 109: "It would be a most unreasonable thing to permit a man who knew the bank were relying upon his forged signature to a bill, to lie by and not to divulge the fact until he saw that the position of the bank was altered for the worse." Reference was made in both the Court of Appeal and this Court to Leather Manufacturers' Bank, but it appears to have been for its reliance on the statement concerning estoppel in Freeman v. Cooke, in particular, the notion of a duty imposed by usage of trade. Leave to appeal from the judgment of this Court was refused by the Privy Council, [1904] A.C. 806.
32. In Greenwood, supra, a customer of a bank who knew that his cheques had been forged was held to be estopped from setting up the forgeries against the bank because his failure to notify the bank promptly of the forgeries had caused the bank to lose its recourse against the forger. Lord Tomlin defined the conditions of estoppel by representation as follows at p. 57:
The essential factors giving rise to an estoppel are I think:‑‑
(1.) A representation or conduct amounting to a representation intended to induce a course of conduct on the part of the person to whom the representation is made.
(2.) An act or omission resulting from the representation, whether actual or by conduct, by the person to whom the representation is made.
(3.) Detriment to such person as a consequence of the act or omission.
Mere silence cannot amount to a representation, but when there is a duty to disclose deliberate silence may become significant and amount to a representation.
In the Court of Appeal, [1932] 1 K.B. 371, Scrutton L.J., in referring to the "mutual" duties of customer and banker in the giving and execution of the mandate that were affirmed in Macmillan, said at p. 381: "This, in my view, involves a continuing duty on either side to act with reasonable care to ensure the proper working of the account." But the duty of the customer that was affirmed by both the Court of Appeal and the House of Lords in Greenwood was a duty that arose upon learning of a forgery. Scrutton L.J. said at p. 381: "This, I think, would involve a corresponding duty on the customer, if he became aware that forged cheques were being presented to his banker, to inform his banker in order that the banker might avoid loss in the future." Lord Tomlin said at pp. 57‑58: "The existence of a duty on the part of the customer of a bank to disclose to the bank his knowledge of such a forgery as the one in question in this case was rightly admitted." The case does not afford support for the view that an estoppel should arise where the customer has the means, by the exercise of reasonable care, to acquire knowledge of the forgery but fails to do so. It should perhaps also be noted that both the Court of Appeal and the House of Lords rejected the contention, based on a passage in Paget, The Law of Banking (4th ed. 1930), citing American authority, that a banker cannot rely on estoppel "when the loss is attributable, even in part, to his own negligence; as where he has failed to detect an obvious forgery or alteration." A distinction was drawn between the cause of the loss resulting from the payment of forged cheques and the cause of the loss of the bank's recourse against the forger, and Scrutton L.J. observed at p. 384: "The American authority is explained by the fact that the United States law has gone much further than the English as to the mutual duties of banker and customer."
33. In Fung Kai Sun v. Chan Fui Hing, [1951] A.C. 489, which involved forged mortgages, the Privy Council held, on the authority of M`Kenzie and Ewing, that the principle of estoppel by silence, where there is a duty to speak, applied to a case in which there was no contractual relationship between the parties, but that in the particular circumstances the respondents were not estopped because the appellant had not established detriment. Referring to the nature of the duty that arises in such a case, even in the absence of a contractual relationship, Lord Reid said at p. 501: ``It is quite true that there was no duty in the sense that failure to perform it would be a tort or a ground for an action of damages. But it is well established that silence can in some cases give rise to an estoppel without there having been a duty in that sense....'' That he understood the duty, however, to be one that arises upon knowledge of a forgery is indicated by the following statement on the same page: "It is unnecessary to enter on any general consideration of the basis of this kind of duty because there is cogent authority in favour of there being a duty of this kind on a person who becomes aware that another person holds a forged deed which purports to be signed by him, and there does not appear to be any direct authority to the contrary effect." Lord Reid then referred to M`Kenzie and Ewing, among other cases.
34. The Canadian position with respect to the verification of bank statements, prior to Arrow Transfer, was established by the judgment of Middleton J. in Columbia Graphophone Co. v. Union Bank of Canada, supra. It recognized the binding effect of a verification agreement, but held, referring with approval to Kepitigalla, that in the absence of knowledge of forgeries a customer was not estopped from setting up forgeries against his bank by his failure to notify the bank of discrepancies following receipt of his bank statement and vouchers. The case involved a series of forgeries and the skilful concealment of them by a confidential clerk over a period of several months. The clerk had been left in control of the bank statements and vouchers. Because of the importance of verification agreements in Canadian banking practice I quote, as an illustration, the form of agreement which was held to be binding on the customer in Columbia Graphophone:
The undersigned customer of the Union Bank of Canada hereby acknowledges receipt of his pass‑book or statement of current account, shewing a balance to the end of the month, May 30, 1914, of $1,598.50 at credit, together with vouchers for all debit items against the undersigned appearing therein since the date of the last statement of account; and, for valuable consideration, the undersigned agrees with the said bank that he will, within ten days from the date hereof, examine the said vouchers and check the debit and credit entries in the said pass‑book or statement of account (and especially all debit entries purporting to be represented by such vouchers), and will in writing point out to the said bank any errors therein, and from and after the expiration of the said period of ten days, except as to improper charges or errors previously pointed out, it shall be conclusively settled as between the bank and the undersigned that the vouchers in respect of all such debit items are genuine and properly chargeable to and charged against the undersigned, and that the undersigned was not entitled to be credited with any sum not credited in the said pass‑book or statement of account.
With respect to the binding effect of such an acknowledgment or agreement, which has the effect of creating a stated or settled account, Middleton J. said at p. 332:
I can see no reason why these acknowledgments and agreements should not bind the customer. They were intended to be real agreements and to define the relation between the parties, and, I think, relieve the bank from all liability down to the 30th May, 1914.
With respect to the forgeries not covered by the verification agreement, Middleton J. rejected the contention "that the rendering of the accounts, and the handing over of the vouchers, with the request for an immediate examination, and the request for the signature of such an acknowledgment each month, and the failure of the customer to make any complaints, preclude it from now objecting to the items charged." He said that "it is a matter of no importance that the customer has so conducted his business as to render forgery by a clerk easy", and emphasized that the duty, the breach of which may result in an estoppel by representation, will only arise upon acquiring knowledge of a forgery or alteration. On this point he said at pp. 333‑34:
Any conduct on the part of the customer after he has knowledge that a forged cheque has been issued or that a genuine cheque has been altered, which is calculated to mislead or deceive the banker, or which will facilitate the commission of a fraud upon the banker, will preclude the customer from asserting that his signature is not genuine; but all these cases rest upon the existence of a duty or obligation which it is assumed arises from the knowledge of the existence of the forged document. This duty or obligation arises generally from the contractual relationship of the parties, but the Supreme Court of Canada found that it may also arise, when there is no contractual relation, from moral and commercial obligation: Ewing v. Dominion Bank (1904), 35 S.C.R. 133, [1904] A.C. 806.
With respect to the issue of policy, Middleton J. said at p. 334:
Here the case is in one aspect a hard one on the bank, but the bank could have protected itself in any one of three ways. It might have, in the first place, insisted upon a contract with the customer imposing upon him the duty to state accounts monthly and to accept as genuine all items not objected to in a reasonable time‑‑or it might have insisted upon the regular signature of the monthly acknowledgments‑‑or it might have delivered the statements and vouchers into the hands of the manager, instead of to the fraudulent clerk.
35. The binding effect of verification agreements was recognized in several cases after Columbia Graphophone, indicating that they had become a well established part of Canadian banking practice. See Rutherford v. Royal Bank of Canada, [1932] S.C.R. 131; Mackenzie v. Imperial Bank of Canada, [1938] O.W.N. 166; B. and G. Construction Co. v. Bank of Montreal, [1954] 2 D.L.R. 753; Banque Provinciale du Canada v. Syndicat des Camionneurs Artisans du Québec Métropolitain, [1970] C.A. 425 (1969), 11 D.L.R. (3d) 610; and Bad Boy Appliances and Furniture Ltd. v. Toronto‑Dominion Bank (1972), 25 D.L.R. (3d) 257. These cases were cited in the judgment of this Court in Arrow Transfer Co. v. Royal Bank of Canada, supra, to which I referred earlier in these reasons and to which I now turn for a more detailed consideration.
V
36. In Arrow Transfer, the chief accountant of the customer forged the signature of signing officers on seventy‑three cheques of the company over a period of five years and managed to conceal the forgeries for that length of time. The customer had signed a verification agreement undertaking to verify the correctness of each bank statement and to notify the bank within a specified period of "any alleged omissions from or debits wrongly made to or inaccurate entries in the account as so stated" and agreeing that at the end of the specified period "the account as kept by the Bank shall be conclusive evidence without any further proof that except as to any alleged errors so notified and any payments made or forged or unauthorized endorsements the account contains all credits that should be contained therein and no debits that should not be contained there and all the entries therein are correct and subject to the above exception the Bank shall be free from all claims in respect of the account." The customer failed to give the bank notice of all but the last of the forgeries within the specified period. The issue on which there was a difference of opinion in the Court between the majority (Abbott, Martland, Ritchie and Spence JJ.) and Laskin J. (as he then was), who concurred in the result but for different reasons, was whether the words "debits wrongly made" in the verification agreement contemplated entries for the payment of cheques on which the drawer's signature had been forged. The majority held that they did. They drew support for this conclusion from the express exception for forged endorsements. Laskin J. was of the view that the verification agreement was not sufficiently clear or explicit to cover cheques on which the signature of the customer had been forged. Since the majority were of the view that the verification agreement was a complete answer to the customer's claim against the drawee bank for the amount of the seventy‑two forged cheques of which it had failed to give the bank the required notice, they did not have to deal with the question addressed by Laskin J.‑‑whether the customer was also precluded by negligence from setting up the forgeries against the bank. In the course, however, of the judgment which he delivered for the majority, Martland J. said at p. 851: "In the absence of the verification agreement, a bank which debited a customer's account in respect of a forged cheque would be liable to him." It was argued in this Court whether this statement necessarily implied a rejection of the view adopted by Laskin J., that even in the absence of an applicable verification agreement the customer owes a duty to his bank to examine his bank statements with reasonable care and to report any discrepancies within a reasonable time. As I indicated earlier in these reasons, I do not think that this brief statement by Martland J., which was not necessary to the disposition of the appeal and makes no allusion to other possible bases for preclusion, such as estoppel, can have been intended to be the expression of a considered opinion on the issue raised by Laskin J. We are not, therefore, as I said earlier, prevented by the judgment of the majority in Arrow Transfer from considering whether, as suggested by Laskin J., a customer owes a duty to his bank, in the absence of a verification agreement, to examine bank statements with reasonable care and to report discrepancies within a reasonable time.
37. After his reference to the American law on this question, and his statement, "I do not think it is too late to fasten upon bank customers in this country a duty to examine bank statements with reasonable care and to report account discrepancies within a reasonable time", Laskin J. disposed of the issue of negligence on what appears to have been the basis of a broader duty of care, comparable to that affirmed by Montgomery J. in the present case. He said at pp. 874‑75:
The facts found in the present case go, however, beyond any failure to meet the duty that I have suggested, and hence make it unnecessary for me to determine how many of the forgeries would have to be borne by the bank by reason of a breach of duty which arose only in relation to the submission of statements of accounts to the appellant. The trial judge absolved the bank of any negligence in relation to the forgeries, which were skilfully executed, and dealing with the appellant's conduct of its business, he made the following findings:
The plaintiff employed a person they knew had been found to be untrustworthy in the past and placed him in a position of complete trust where no one checked upon his work adequately. The procedures followed by the plaintiff and its auditors were inadequate to discover the fraud and to discover that its books had not balanced for a number of years. Cheques remain today in which the duplicate shows one payee and the original another. The accounts payable had not balanced for years. In each of the months in which there was a forged cheque Mr. Seear was permitted to extract the cheque and complete the balancing. He was a very personable fellow, well trained in accounting. If the plaintiff had employed proper procedures it seems reasonable to expect that it would have discovered some of the forgeries, that its bank's returns did not balance in many months, that its accounts payable did not balance, or that its cheques were not in accordance with the duplicate register. One would have expected that in an organization handling money in the amounts that this plaintiff handled, no person would be so wholly entrusted with responsibility that no other person's duties would involve a check upon him. In this case the plaintiff knew that the person in that position had been discharged from his former employment because it was found that he could not be trusted.
On these findings, relating as they do to the particular facts of this case, I am of the opinion that the appellant is precluded from claiming against the Royal Bank on any of the seventy‑two cheques which are the subject of its action.
The implication of this passage, as I read it, is that Laskin J. was of the view that not only did the customer have a duty to examine its bank statements and vouchers with reasonable care and to report any discrepancies within a reasonable time, but that it also had a wider duty to carry on its business in such a way as to maintain proper supervision, verification and other internal controls for the prevention and detection of forgery in the drawing of its cheques. The opinion did not, however, explore the issues concerning the legal basis for either duty. The basis for a wider duty of care in respect of the prevention and detection of forgery in the drawing of a customer's cheques was very fully canvassed in the judgments of the Hong Kong Court of Appeal and the Privy Council in Tai Hing Cotton Mill Ltd. v. Liu Chong Hing Bank Ltd., [1984] 1 Lloyd's Rep. 555 (C.A.), [1986] 1 A.C. 80 (P.C.), to which I now turn.
VI
38. Tai Hing involved a pattern of forgery and concealment of it by an employee of a corporate customer comparable to that in Arrow Transfer and in the present case, although it extended over a longer period and resulted in greater loss. An accounts clerk of the textile company forged the signature of the managing director of the company on some three hundred cheques totalling approximately HK$5.5 million. The forgeries extended over the period November 1974 to May 1978 and were not discovered until the end of that period because of inadequate internal controls. The company instituted an action for a declaration that the three banks involved were not entitled to debit its accounts for the payment of the forged cheques. The banks contended that the company was precluded from setting up the forgeries by the breach of a duty of care owing to the banks. The banks relied on what was referred to as the "wider duty"‑‑"to take such precautions as a reasonable customer in his position would take to prevent forged cheques being presented to his bank for payment"‑‑and also on what was referred to as the "narrower duty"‑‑"to take such steps to check his monthly bank statements as a reasonable customer in his position would take to enable him to notify the bank of any items debited therefrom which were not or may not have been authorized by him": [1984] 1 Lloyd's Rep. 555 at p. 556. Reliance was also placed on the customer's agreement at the time of opening the accounts to comply with the banks' rules and procedures governing the conduct of the accounts. In each case there was a rule to the general effect that upon failure to notify the bank within a specified period of any error in the bank statement, which was sent to the customer without return of the cancelled cheques, the statement would be deemed to be approved or confirmed. These provisions were referred to by the Court of Appeal as the "express terms of business" and by the Privy Council as the "express conditions". I shall refer to them as the "express agreements".
39. Both duties were rejected by the trial judge as unsupported by the authority that was binding on him, but he found as a fact that, if such duties existed, the customer was in breach of them, and that finding of fact was not challenged. The trial judge also held that the express agreements did not have the effect by themselves of precluding the customer from setting up the forgeries. Despite, however, the absence of either of the duties contended for by the banks, and the lack of conclusive effect in the express agreements, the trial judge held that the customer was estopped by its conduct, following receipt of its bank statements, from setting up the forgeries against two of the banks. He held that the failure of the customer to object to debits following receipt of its bank statements amounted to a representation that the debits were correct on which two of the banks relied to their detriment. The judgment of the trial judge, which is apparently not reported, is more fully referred to on this point by the Privy Council than by the Court of Appeal: [1986] 1 A.C. 80 at p. 100.
40. On the appeal from this judgment, the Hong Kong Court of Appeal (Cons and Fuad JJ.A. and Hunter J.), [1984] 1 Lloyd's Rep. 555, held that apart from any express agreement a customer owed a duty to his bank to take reasonable care to see that in the operation of his account the bank was not injured. The Court held that the duty arose both as an implied term of the contract between the banker and customer and as a duty of care in tort because of the relationship of proximity between them. It further held that the duty was a general one, applicable to all customers regardless of their nature or size. Referring to the judgment of Montgomery J. in the present case, which he quoted in support of his general conclusion, Cons J.A. said at p. 564: "A factor that seems to have carried great weight with the learned Judge is that the customer was a large and `sophisticated commercial customer'. With every respect, it seems to me that the existence or otherwise of a general duty of this kind ought not to depend upon the nature of the customer's business." The Court held that, whether on the basis of breach of duty or on the basis of estoppel, the customer was precluded from setting up the forgeries against the banks. Cons J.A. was of the view that the customer was also precluded from setting up the forgeries by the express agreements. Hunter J., with whom Fuad J.A. concurred on this point, took a different view of the effect of these agreements.
41. The Privy Council (Lord Scarman, Lord Roskill, Lord Brandon of Oakbrook, Lord Brightman and Lord Templeman), [1986] A.C. 80, allowed the appeal from the judgment of the Court of Appeal on the ground that there was no basis for the "wider duty" or the "narrower duty" as either an implied term of the contract between banker and customer or as a duty of care in tort, and that in the absence of any duty there could not be an estoppel. The Privy Council was also of the view that the customer was not precluded by the express agreements from setting up the forgeries against the banks. On this point it agreed with the view of the trial judge and Hunter J., whose approach to the interpretation of the express agreements had been similar to that of Laskin J. with respect to the verification agreement in Arrow Transfer. It is necessary to consider the reasoning of the Court of Appeal and the Privy Council concerning the possible basis for a duty of care extending beyond the duties recognized by the House of Lords in the Macmillan and Greenwood cases.
42. In the Court of Appeal, Cons J.A. approached the question whether the duty contended for should be recognized as an implied term of the contract between banker and customer on the basis of what was said in Lister v. Romford Ice and Cold Storage Co., [1957] A.C. 555, and Liverpool City Council v. Irwin, [1977] A.C. 239, concerning the implication of a term as a legal incident of a particular class or kind of contract, without regard to the presumed intention of the parties, as distinguished from the implication of a term to fill a gap in a particular contract on the basis of presumed intention, in accordance with the business efficacy and "officious bystander" tests laid down in The "Moorcock" (1889), 14 P.D. 64; Reigate v. Union Manufacturing Co. (Ramsbottom), [1918] 1 K.B. 592; and Shirlaw v. Southern Foundries (1926), Ltd., [1939] 2 K.B. 206.
43. In Lister, one of the issues was whether it should be an implied term of the contractual relationship between master and servant, where the servant had certain duties respecting the driving of a motor vehicle, that the master would indemnify the servant against liability arising out of the use of the vehicle in the course of his employment. In a passage which was quoted by Cons J.A. in Tai Hing, Viscount Simonds distinguished the implication of a term as a legal incident of a particular class or kind of contract from the implication of a term in a particular contract on the basis of presumed intention as follows at p. 576:
For the real question becomes, not what terms can be implied in a contract between two individuals who are assumed to be making a bargain in regard to a particular transaction or course of business; we have to take a wider view, for we are concerned with a general question, which, if not correctly described as a question of status, yet can only be answered by considering the relation in which the drivers of motor‑vehicles and their employers generally stand to each other. Just as the duty of care, rightly regarded as a contractual obligation, is imposed on the servant, or the duty not to disclose confidential information (see Robb v. Green [[1895] 2 Q.B. 315; 11 T.L.R. 517]), or the duty not to betray secret processes (see Amber Size and Chemical Co. Ltd. v. Menzel [[1913] 2 Ch. 239; 29 T.L.R. 590]), just as the duty is imposed on the master not to require his servant to do any illegal act, just so the question must be asked and answered whether in the world in which we live today it is a necessary condition of the relation of master and man that the master should, to use a broad colloquialism, look after the whole matter of insurance. If I were to try to apply the familiar tests where the question is whether a term should be implied in a particular contract in order to give it what is called business efficacy, I should lose myself in the attempt to formulate it with the necessary precision. The necessarily vague evidence given by the parties and the fact that the action is brought without the assent of the employers shows at least ex post facto how they regarded the position. But this is not conclusive; for, as I have said, the solution of the problem does not rest on the implication of a term in a particular contract of service but upon more general considerations.
The same distinction was drawn by Lord Tucker as follows at p. 594:
Some contractual terms may be implied by general rules of law. These general rules, some of which are now statutory, for example, Sale of Goods Act, Bills of Exchange Act, etc., derive in the main from the common law by which they have become attached in the course of time to certain classes of contractual relationships, for example, landlord and tenant, innkeeper and guest, contracts of guarantee and contracts of personal service. Contrasted with such cases as these there are those in which from their particular circumstances it is necessary to imply a term to give efficacy to the contract and make it a workable agreement in such manner as the parties would clearly have done if they had applied their minds to the contingency which has arisen. These are the "officious bystander" type of case, to use Mackinnon L.J.'s well‑known words. I do not think the present case really comes in that category, it seems to me to fall rather within the first class referred to above.
44. In Liverpool City Council, the relevant issue was whether there should be implied in the relationship between landlords and tenants in multi‑storey dwellings an obligation on the part of the landlords to keep the common parts of the building over which they retained control in repair. In the Court of Appeal, [1976] 1 Q.B. 319, the question of implication was approached with reference to the business efficacy and "officious bystander" tests as one of implication of a term in a particular contractual relationship on the basis of presumed intention. Lord Denning M.R. expressed the view that despite these expressions of the test for implication the cases showed that the test was really what was reasonable. He had a few months earlier expressed the same opinion in Greaves & Co. (Contractors) Ltd. v. Baynham Meikle and Partners, [1975] 3 All E.R. 99 (C.A.), at p. 103. Roskill L.J. and Ormrod L.J. disagreed, saying that the courts should not imply a term unless it is both reasonable and necessary. The House of Lords, [1977] A.C. 239, agreed with the majority in the Court of Appeal on this point, and that the proposed implied term could not meet the test for implication on the basis of presumed intention. But they held that it could, and should, be implied as a legal incident of that particular kind of contractual relationship, regardless of presumed intention. They held, however, that the test for that kind of implication was also necessity. Lord Wilberforce said at p. 254: "In my opinion such obligation should be read into the contract as the nature of the contract itself implicitly requires, no more, no less: a test, in other words, of necessity." With reference to the necessity of the implied term in respect of the facilities in issue he said on the same page: "All these are not just facilities, or conveniences provided at discretion: they are essentials of the tenancy without which life in the dwellings, as a tenant, is not possible. To leave the landlord free of contractual obligation as regards these matters, and subject only to administrative or political pressure, is, in my opinion, inconsistent totally with the nature of this relationship. The subject matter of the lease (high rise blocks) and the relationship created by the tenancy demand, of their nature, some contractual obligation on the landlord." Lord Wilberforce said at pp. 254‑55, "The necessity to have regard to the inherent nature of a contract and of the relationship thereby established was stated in this House in Lister v. Romford Ice and Cold Storage Co. Ltd. [1957] A.C. 555." He referred to the statement by Viscount Simonds in Lister, saying that it made "a clear distinction between a search for an implied term such as might be necessary to give `business efficacy' to the particular contract and a search, based on wider considerations, for such a term as the nature of the contract might call for, or as a legal incident of this kind of contract." The other members of the House of Lords also appear, on the whole, to have regarded the test for this kind of implication as one of necessity. Apart from their express dicta on this point, this view is to be inferred from their reliance on the statement by Viscount Simonds in Lister, in which he said the question was whether the proposed implied term was a "necessary condition" of the master and servant relationship. Lord Cross of Chelsea was the only one to suggest that the test for this kind of implication is whether it would be reasonable to imply the term in question. He said at pp. 257‑58: "When it implies a term in a contract the court is sometimes laying down a general rule that in all contracts of a certain type‑‑sale of goods, master and servant, landlord and tenant and so on‑‑some provision is to be implied unless the parties have expressly excluded it. In deciding whether or not to lay down such a prima facie rule the court will naturally ask itself whether in the general run of such cases the term in question would be one which it would be reasonable to insert. Sometimes, however, there is no question of laying down any prima facie rule applicable to all cases of a defined type but what the court is being in effect asked to do is to rectify a particular‑‑often a very detailed‑‑contract by inserting in it a term which the parties have not expressed. Here it is not enough for the court to say that the suggested term is a reasonable one the presence of which would make the contract a better or fairer one; it must be able to say that the insertion of the term is necessary to give‑‑as it is put‑‑`business efficacy' to the contract and that if its absence had been pointed out at the time both parties‑‑assuming them to have been reasonable men‑‑would have agreed without hesitation to its insertion." Lord Salmon was clearly of the view that the test was one of necessity. Using words of Bowen L.J. in Miller v. Hancock, [1893] 2 Q.B. 177, which was also relied on by Lord Wilberforce, he said at p. 263: "I find it difficult to think of any term which it could be more necessary to imply than one without which the whole transaction would become futile, inefficacious and absurd as it would do if in a 15 storey block of flats or maisonettes, such as the present, the landlords were under no legal duty to take reasonable care to keep the lifts in working order and the staircase lit." It is also an implication of the speech of Lord Edmund‑Davies, in which he referred to the "new approach" to implication based on the statement of Viscount Simonds in Lister and to the reference by Bowen L.J. in Miller v. Hancock to "necessary implication" that he regarded the test for this kind of implication as one of necessity. Lord Fraser of Tullybelton said that he agreed with Lord Wilberforce that "there is to be implied, as a legal incident of the kind of contract between these landlords and these tenants, an obligation on the landlords to take reasonable care to maintain the common stairs, the lifts and the lighting on the common stairs." The inference is that he also agreed that the test was one of necessity. Statements that in implying a term as a legal incident of a particular class or kind of contract courts will consider whether the proposed term would be reasonable do not necessarily exclude the requirement that it must also be shown to be necessary. Cf. Cheshire and Fifoot's Law of Contract (10th ed. 1981), at p. 125, and Treitel, The Law of Contract, (5th ed. 1979), at p. 148, in which it is said, in the context of a reference to Liverpool City Council, that in deciding whether to imply a term as a legal incident of a particular class or kind of contract the courts will consider whether it would be reasonable to do so. This is in effect what was said by Lord Cross of Chelsea in Liverpool City Council but even assuming that he meant to limit the test in such a case to one of reasonableness it cannot be doubted for the reasons I have indicated that the view of the majority was that the test was one of necessity. In this regard, it is interesting to compare the opinion of Lord Denning M.R. in Shell UK Ltd. v. Lostock Garage Ltd., [1977] 1 All E.R. 481 (C.A.) at p. 487, citing Lord Cross, that the test for the kind of implication made in Liverpool City Council is one of reasonableness and the opinions of Stephenson L.J. in Mears v. Safecar Security Ltd., [1982] 2 All E.R. 865 (C.A.) at p. 879, and of Oliver L.J. in Harvela Investments Ltd. v. Royal Trust Co. of Canada (CI) Ltd., [1985] 1 All E.R. 261 (C.A.) at p. 272, that the test applied in Liverpool City Council, at least by the majority, was one of necessity.
45. In the Court of Appeal in Tai Hing, Cons J.A., quoting from Lister and Liverpool City Council, appears to have accepted the contention of counsel that the "new approach" referred to by Lord Edmund‑Davies was what a particular contractual relationship required or demanded in the way of reciprocal obligations. He said that Macmillan reflected this approach, referring especially to what Viscount Haldane said in that case about the "correlative obligation" of the customer. Cons J.A. also referred to the contention of counsel that the wider duty of care contended for was the reciprocal of the general duty of care in the conduct of the customer's business imposed on banks by the decisions in Selangor United Rubber Estates Ltd. v. Cradock (No. 3), [1968] 1 W.L.R. 1555, and Karak Rubber Co. v. Burden (No. 2), [1972] 1 W.L.R. 602. In those cases, which were also relied on by counsel for the Bank in the present case, the courts held that a banker owed a duty of care to a customer, in carrying out the instructions reflected in his cheques, to make sure, when put upon inquiry, that the customer's funds were not being misapplied. In the end, however, Cons J.A. appears to have accepted the test of necessity and to have concluded that the wider duty of care contended for was a "necessary condition" of the modern banker and customer relationship, as appears from the following passage in his reasons for judgment at p. 560:
It cannot be said that the imposition of a duty of care on the customer is absolutely essential to the relationship. The banks could I think manage to service current accounts without that assistance. So could, I think, the tenant of the high rise flats have managed to live there without the benefit of lifts, lights on the staircase or garbage chutes. But that did not deter their Lordships. They took a more practical view of necessity. They inquired if the transaction would become "futile, inefficacious or absurd" if these amenities were not maintained. For my part I can think of little more futile than for the operator of an active bank account to throw his monthly statements in the waste paper basket without ever bothering to looking [sic] at them; little more inefficacious than to leave the operation of that account to a clerk whose work is never checked; and little more absurd than to expect the bank to insure the honesty of the customer's clerk when the customer deliberately puts into the clerk's hands the weapons with which he can plunder and rob the bank. It cannot be economically feasible nowadays for a bank to subject the signature on each and every cheque presented to a thorough examination or comparison with the specimen signature card. Banks must look to other protection. Thus, after a great deal of hesitation, I find myself finally led to the conclusion that, in the world in which we live today, it is a necessary condition of the relation of banker and customer that the customer should take reasonable care to see that in the operation of the account the bank is not injured.
46. In the Privy Council, Lord Scarman said that Cons J.A. had adopted the right test for implication but had reached the wrong conclusion. With reference to the applicable test he said at pp. 104‑05:
Their Lordships agree with Cons J.A. that the test of implication is necessity. As Lord Wilberforce put it in Liverpool City Council v. Irwin [1977] A.C. 239, 254:
"such obligation should be read into the contract as the nature of the contract itself implicitly requires, no more, no less: a test, in other words, of necessity."
Cons J.A. went on to quote an observation by Lord Salmon in the Liverpool case to the effect that the term sought to be implied must be one without which the whole transaction would become "inefficacious, futile and absurd" (p. 262).
Their Lordships accept as correct the approach adopted by Cons J.A. Their Lordships prefer it to that suggested by Hunter J. which was to ask the question: does the law impose the term? Implication is the way in which necessary incidents come to be recognised in the absence of express agreement in a contractual relationship. Imposition is apt to describe a duty arising in tort, but inept to describe the necessary incident arising from a contractual relationship.
With reference to the proper conclusion on the application of this test, Lord Scarman said at pp. 105‑06:
The argument for the banks is, when analysed, no more than that the obligations of care placed upon banks in the management of a customer's account which the courts have recognised have become with the development of banking business so burdensome that they should be met by a reciprocal increase of responsibility imposed upon the customer: and they cite Selangor United Rubber Estates Ltd. v. Cradock (No. 3) [1968] 1 W.L.R. 1555 (Ungoed‑Thomas J.) and Karak Rubber Co. Ltd. v. Burden (No. 2) [1972] 1 W.L.R. 602 (Brightman J.). One can fully understand the comment of Cons J.A. that the banks must today look for protection. So be it. They can increase the severity of their terms of business, and they can use their influence, as they have in the past, to seek to persuade the legislature that they should be granted by statute further protection. But it does not follow that because they may need protection as their business expands the necessary incidents of their relationship with their customer must also change. The business of banking is the business not of the customer but of the bank. They offer a service, which is to honour their customer's cheques when drawn upon an account in credit or within an agreed overdraft limit. If they pay out upon cheques which are not his, they are acting outside their mandate and cannot plead his authority in justification of their debit to his account. This is a risk of the service which it is their business to offer. The limits set to the risk in the Macmillan [1918] A.C. 777 and Greenwood [1933] A.C. 51 cases can be seen plainly necessary incidents of the relationship. Offered such a service, a customer must obviously take care in the way he draws his cheque, and must obviously warn his bank as soon as he knows that a forger is operating the account. Counsel for the banks asked rhetorically why, once a duty of care was recognised, should it stop at the Macmillan and Greenwood limits. They submitted that there was no rational stopping place short of the wider duty for which they contended. With very great respect to the ingenious argument addressed to the Board their Lordships find in certain observations of Bray J. in Kepitigalla's case [1909] 2 K.B. 1010 a convincing statement of the formidable difficulties in the way of this submission....
Lord Scarman then quoted the passage from the judgment of Bray J., which I have quoted above, beginning with the sentence, "I think Mr. Scrutton's contention equally fails when it is considered apart from authority."
47. The Court of Appeal also held, as I have indicated, that the customer owed a duty of care in tort as well as in contract on the basis of the principles affirmed in Anns v. Merton London Borough Council, [1978] A.C. 728. Reference was made to Esso Petroleum Co. v. Marden, [1976] Q.B. 801, and Midland Bank Trust Co. v. Hett, Stubbs and Kemp, [1979] Ch. 384, for recognition that a duty of care may arise from a relationship of proximity or neighbourhood that would not have existed but for a contract. The Privy Council expressed disagreement with the characterization of obligations or duties as at the same time both contractual and tortious, particularly in the case of the banker and customer relationship, but held that in any event there could not be a wider duty in tort than that which existed as an implied term of the contract. On this point Lord Scarman expressed himself as follows at p. 107:
Their Lordships do not, therefore, embark on an investigation as to whether in the relationship of banker and customer, it is possible to identify tort as well as contract as a source of the obligations owed by the one to the other. Their Lordships do not, however, accept that the parties' mutual obligations in tort can be any greater than those to be found expressly or by necessary implication in their contract. If, therefore, as their Lordships have concluded, no duty wider than that recognised in Macmillan [1918] A.C. 777 and Greenwood [1933] A.C. 51 can be implied into the banking contract in the absence of express terms to that effect, the banks cannot rely on the law of tort to provide them with greater protection than that for which they have contracted.
48. Finally, the Privy Council held that since the customer did not owe the duty of care contended for by the banks there could not be an estoppel resulting from its conduct following receipt of its bank statements. This was a clear rejection of estoppel on the basis of imputed knowledge, apart from the breach of a duty to examine bank statements. Lord Scarman said at p. 110:
Their Lordships having held that the company was not in breach of any duty owed by it to the banks, it is not possible to establish in this case an estoppel arising from mere silence, omission or failure to act.
Mere silence or inaction cannot amount to a representation unless there be a duty to disclose or act: Greenwood's case [1933] A.C. 51, 57. And their Lordships would reiterate that unless conduct can be interpreted as amounting to an implied representation, it cannot constitute an estoppel: for the essence of estoppel is a representation (express or implied) intended to induce the person to whom it is made to adopt a course of conduct which results in detriment or loss: Greenwood's case, per Lord Tomlin, at p. 57.
VII
49. With this background of authority with reference to the policy issue and the legal basis for a wider duty of care owing by a customer to a bank in respect of the prevention and detection of forgery in the drawing of his cheques, I come at last to my own conclusions on the issues in the appeal.
50. First, I would question the attempt in the present case to limit the application of the duties affirmed, as a matter of general principle, to a particular class or category of customers characterized somewhat vaguely as the "sophisticated commercial customer". With great respect, I do not think there is a sound basis in law for implying a duty in the banker and customer relationship with such a limitation. I agree with Cons J.A. in Tai Hing that such a duty if it exists must apply in every case of the banker and customer relationship and to all customers, whether sophisticated or not. Such a limitation or qualification, even if it were sound legally, would lead to great uncertainty. It does, however, serve to indicate that the trial judge was not so convinced as to where the balance lay on the policy issue with respect to the ordinary or unsophisticated customer. The duty to examine bank statements and vouchers with reasonable care and to report any discrepancies within a reasonable time, which was the duty principally contended for by the Bank, would, in my view, have to be a duty that applied to all customers.
51. As I have indicated, the trial judge based the implication of the duties affirmed by him on "commercial custom", attaching particular importance to the following statement by Pratte J. in Bank of Montreal v. Attorney General (Que.), supra, at p. 570:
However, bank contracts, such as the one between the government and the bank, are somewhat special in that they are usually silent as to their contents; the parties rely on commercial custom and the law. It is therefore appropriate to apply art. 1017 C.C., which reads as follows:
1017. The customary clauses must be supplied in contracts, although they be not expressed.
There is no doubt that the implication of terms in a contract on the basis of custom or usage is a well recognized category of implication that has been particularly important with respect to commercial contracts. It was noted in Hutton v. Warren (1836), 1 M. & W. 446, 150 E.R. 517, where Parke B. said at p. 475 M. & W. and at p. 521 E.R.: "It has long been settled, that in commercial transactions, extrinsic evidence of custom and usage is admissible to annex incidents to written contracts, in matters with respect to which they are silent. The same rule has also been applied to contracts in other transactions of life, in which known usages have been established and prevailed; and this has been done upon the principle of presumption that, in such transactions, the parties did not mean to express in writing the whole of the contract by which they intended to be bound, but a contract with reference to those known usages." Implication on the basis of custom or usage was referred to by Lord Wilberforce in Liverpool City Council, where in his discussion of the various kinds of implication, he said at p. 253: "Where there is, on the face of it, a complete, bilateral contract, the courts are sometimes willing to add terms to it, as implied terms: this is very common in mercantile contracts where there is an established usage: in that case the courts are spelling out what both parties know and would, if asked, unhesitatingly agree to be part of the bargain." As the statements of Parke B. and Lord Wilberforce indicate, however, implication on the basis of custom or usage is implication on the basis of presumed intention. (Of course custom is being used here as more or less synonymous with usage and not in the sense of custom that has become a rule of law. Cf. The "Freiya" v. The ``R.S.'', [1922] 1 W.W.R. 409, for a discussion of the distinction between custom and usage.) It is not too clear to me what the trial judge found in the present case to be the commercial custom on which he based the duties of care affirmed by him, but it would appear to have been the practice of a sophisticated commercial customer such as CP Hotels, which he found to be known to and relied upon by the Bank, to operate a system of internal accounting controls which included a monthly bank reconciliation. With great respect, I would question whether this was sufficient to constitute a custom or usage on which a duty of care could be grounded as an implied term of the contract. It would seem to me that the evidence of the practice constituting such a custom or usage would have to be such as to support an inference of an understanding between the bank and the customer that the customer would examine his bank statements with reasonable care and report any discrepancies within a reasonable time, failing which he would be precluded from setting up the discrepancies against the bank. I question whether the evidence in the present case supports such an inference. In any event, there could be no such custom or usage with respect to the ordinary customer. Moreover, it is difficult to see how custom or usage could be found in the face of an established rule of law to the effect that in the absence of a verification agreement a customer does not owe a duty to his bank to examine bank statements with reasonable care and to report discrepancies within a reasonable time.
52. For similar reasons I am of the opinion that the duty contended for cannot be implied as a term of the banker and customer relationship in a particular case under the other category of implication based on presumed intention‑‑the implication of a term as necessary to give business efficacy to a contract or as otherwise meeting the "officious bystander" test as a term which the parties would say, if questioned, that they had obviously assumed. It is clear from the established law and practice, including the recognition and use of verification agreements, that the duty contended for is not necessary to the business efficacy of the banker and customer relationship and cannot otherwise be presumed to have been intended by the customer. Banks in this country have managed to get along without it for a very long time.
53. There remains the question whether the duty contended for can and should be implied under the third category of implication, which does not depend on presumed intention‑‑the implication of terms as legal incidents of a particular class or kind of contract, the nature and content of which have to be largely determined by implication. Such is clearly the ordinary relationship of banker and customer with respect to the operation of an account. The issue here, as I see it, is whether the test for such implication is to be reasonableness or necessity. This is an important issue of judicial policy respecting the limits of judicial power to impose obligations or duties on the parties to a contract by implication. It is reflected in the differing opinions of the Court of Appeal in Liverpool City Council. Although what was said there was said with reference to implication on the basis of presumed intention under the business efficacy or "officious bystander" tests, I think it applies equally to implication under what I have referred to as the third category. I am, therefore, with great respect, in agreement with the view expressed by the majority in the House of Lords in Liverpool City Council that the test in such a case of implication should also be one of necessity. It is said that not all the terms that have been implied in the banker and customer relationship reflect a test of necessity. That may well be arguable, although it is my impression from a consideration of the cases that most, if not all, of the terms that have been implied could be regarded as being required by the nature of that particular contractual relationship, to use the approach adopted by Viscount Simonds in Lister and Lord Wilberforce in Liverpool City Council. I think that is reflected in Macmillan and in other cases which have considered the implication of terms in the banker and customer relationship, such as Joachimson v. Swiss Bank Corp., [1921] 3 K.B. 110, and Tournier v. National Provincial and Union Bank of England, [1924] 1 K.B. 461. I think it also affords a rationale for the duty of care that was held to be owing by banks to their customers in Selangor and Karak Rubber. In my opinion, a duty, in the absence of a verification agreement, to examine bank statements with reasonable care and report discrepancies within a reasonable time is not necessary or required by the contractual relationship in this sense. It should not, therefore, be imposed by judicial decision. If banks consider it to be necessary they may insist on verification agreements or obtain appropriate legislation if they can. What I have said about a duty to examine bank statements and report discrepancies applies, of course, a fortiori, to a duty to maintain an adequate system of internal controls for the prevention and minimization of loss through forgery.
54. In conclusion, then, I am of the opinion that a customer of a bank does not, in the absence of a verification agreement, owe a duty to the bank to examine his bank statements and vouchers with reasonable care and to report any discrepancies within a reasonable time, nor does a customer, "sophisticated" or otherwise, owe a duty to its bank to maintain an adequate system of internal accounting controls for the prevention and minimization of loss through forgery.
55. It was not argued in this Court that if either of the duties of care contended for by the Bank did not exist in contract, they could arise in tort. Although some reliance was placed in argument on the judgment of the Hong Kong Court of Appeal in Tai Hing, which found a basis in tort as well as in contract for a wider duty of care with respect to the forgery of a customer's cheques, a possible basis in tort for either the wider or narrower duty of care contended for in the present case was not seriously explored in this Court. Nor was any consideration given as to whether, as a matter of principle, a duty of care in tort could be held to arise in a contractual relationship from which the same duty had been excluded by the courts as an implied term of the contract. The appeal was argued before the judgment of this Court in Central Trust Co. v. Rafuse, [1986] 2 S.C.R. 147. In order, however, that there should not remain uncertainty, in view of the manner in which this case was argued, as to whether the customer of a bank could owe a duty in tort, in the absence of a verification agreement, to examine bank statements with reasonable care and to report any discrepancies within a reasonable time, I am of the opinion, assuming it to be arguable that such a duty could arise in tort, that the principle of concurrent or alternate liability in contract and in tort affirmed in Rafuse cannot extend to the recognition of a duty of care in tort when that same duty of care has been rejected or excluded by the courts as an implied term of a particular class of contract.
56. For these reasons I am of the opinion that the appellant was not in breach of any duty owing to the respondent and is therefore not precluded from setting up the forgeries against the respondent. I would accordingly allow the appeal, set aside the judgments of the Court of Appeal and the trial court and enter judgment in favour of the appellant for the amount of its claim against the respondent, with interest and costs.
The following are the reasons delivered by
57. La Forest J.‑‑I have had the advantage of reading the judgment of my colleague, Le Dain J. I am in general agreement with him but have some concerns about his comments in the latter part of his judgment regarding concurrent liability in contract and tort.
58. My colleague puts the matter on the ground that the principle of concurrent or alternate liability in contract and in tort cannot extend to the recognition of a duty of care in tort where that same duty of care has been rejected or excluded by the courts as an implied term of a particular class of contract. I would not approach it in this way. One should not, I think, focus discretely on the banker‑customer contract without reference to its informing context. In interpreting this contract, the courts were dealing with only one aspect of a larger enterprise, namely, the elaboration of a general system or code governing bills of exchange which had been part of the law merchant and had its own policy and structural requirements. Not the least of the needs of this system was the necessity for clear rules of general application. In the case of forged cheques, the rule was clear. The banker was supposed to know his customer's signature and the liability was his if he honoured a cheque on which his customer's signature had been forged. There were exceptions based on estoppel, but these were narrow. Attempts to impose on the customer a wider duty were, as Le Dain J. notes, firmly rejected.
59. A major reason for the rejection of a wider duty is that already mentioned: the need for a rule that was clear in most circumstances, cutting within a narrow compass the cases where the loss was directly attributable to the customer because of negligence or otherwise. Parke B. clearly expressed the policy militating against a wider duty in Bank of Ireland v. Evans' Trustees (1855), 5 H.L.C. 389, 10 E.R. 950, at pp. 410‑11 (H.L.C.), p. 959 (E.R.):
If such negligence could disentitle the Plaintiffs, to what extent is it to go? If a man should lose his cheque‑book, or neglect to lock the desk in which it is kept, and a servant or stranger should take it up, it is impossible in our opinion to contend that a banker paying his forged cheque would be entitled to charge his customer with that payment.
Such broad uncertainty is out of place in the governance of negotiable instruments.
60. A further justification for restricting the duty within narrow bounds was later advanced, namely, that this effected a better distribution of loss. As Bray J. put it in Kepitigalla Rubber Estates, Ltd. v. National Bank of India, [1909] 2 K.B. 1010, at p. 1026: "To the individual customer the loss would often be serious; to the banker, it is negligible." Whether that ground existed earlier I have not attempted to determine.
61. The fact is, however, that a choice was made in favour of a narrow duty at a time before and during which notions of tort and contract were emerging. That policy choice was based on considerations having nothing to do with distinctions between tort and contract. It was felt to be appropriate to the governance of negotiable instruments. To introduce a wider duty today under the rubric of the tort of negligence would effect the same uncertainties as those referred to by Parke B. in the Bank of Ireland case. The line between carelessness and negligence in many everyday situations can be extremely hard to draw, and as I mentioned before there is need for more precise boundaries in this area.
62. It was against the background above described that the Bills of Exchange Act, now R.S.C. 1970, c. B‑5, and in particular s. 49(1), was enacted. Generally, what Parliament sought to do by the Bills of Exchange Act was to codify the pre‑existing law. It must, as in other cases, be presumed to have known the law in enacting the provision that now governs the situation. I cannot believe Parliament, by the word "precluded" (which embodies the only exceptions to the general rule), would have meant to authorize at this late date a wide divergence from the rules for loss allocation that it sought to codify. This does not mean that the law is completely frozen, but it does mean that it cannot be expanded in such a way as to give rise under a new label to a wider duty that is inconsistent with the basic policy choice it sought to codify.
63. I would, therefore, dispose of the appeal in the manner proposed by Le Dain J.
Appeal allowed with costs.
Solicitors for the appellant: Bassel, Sullivan & Leake, Toronto.
Solicitors for the respondent: Fraser & Beatty, Toronto.
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