Kerala High Court Sets Aside KFC Auction Sale, Says Purchaser Cannot Be Financed Against Same Property

The Kerala High Court on 29 June held that the Kerala Financial Corporation (KFC) cannot finance the purchase of an auctioned property by advancing a loan against the security of the very same property, as such a course violates its statutory duty to secure the best possible price for the mortgaged asset.

A Division Bench of Justices A.K. Jayasankaran Nambiar and Preeta A.K. set aside the auction sale conducted by KFC after finding material irregularities in the sale process, and directed it to obtain a fresh valuation of the property and conduct a fresh auction within six months. The judges noted:

“We are at a loss to understand how, in the face of Section 29 of the SFC Act, that obliges the respondent Corporation to act as a trustee of the mortgaged property with an obligation to try and obtain the best price for the property at an auction sale, it can have a scheme to finance an auction purchaser with a loan granted to him against the security of the very same property.”

Pearl Hill Builders and Developers mortgaged property in Kozhikode to secure financial assistance from KFC. After the borrower defaulted on repayment, KFC initiated recovery proceedings and put the secured asset up for sale through an e-auction.

After an earlier attempt to sell the property failed, KFC fixed the reserve price at Rs. 9.15 crore and conducted an e-auction on 12 March 2021. Only two bidders participated. Anil Kumar emerged as the highest bidder but, instead of completing the purchase himself, requested KFC to execute the sale in favour of four persons who had formed a partnership firm. One of the partners was the son of the unsuccessful bidder.

The borrower challenged the auction, alleging that KFC undervalued the property, accepted the mandatory 25% deposit beyond the stipulated time, and sanctioned a Rs. 5 crore loan to the partnership firm to enable it to purchase the very property being auctioned. A Single Judge dismissed the writ petition, prompting the borrower to file an appeal before the Division Bench.

The Division Bench agreed with the Single Judge that KFC committed no illegality in fixing the reserve price or following the pre-auction procedure. However, it found serious irregularities in the manner in which KFC completed the sale.

It noted that the successful bidder failed to deposit 25% of the sale consideration within the prescribed period and that the successful bidder himself did not make the payment. Referring to the General Conditions governing the auction, the Bench observed:

“…going by clause 6 and 7, the 'party' who is to make payment is the 'tenderer or the party in whose favour the sale is decided'. Therefore, technically speaking no amount was paid by the 'tenderer or the party in whose favour the sale is decided' other than the amount deposited as EMD. Further, the request for executing the sale deed in favour of respondents 7 to 10 was also made prior to payment of the balance 75% of the sale consideration. This was in contravention of clause 7 of the General Conditions.”

It added:

“…the successful bidder in whose favour the sale was confirmed, left the scene immediately after the confirmation and was not part of the further steps for finalisation of the sale.”

Further, the Bench also examined KFC's decision to sanction a substantial loan to the partnership firm to acquire the same property that KFC had put up for auction. He held:

“We would have thought that any genuine attempt at obtaining the best price for a property that is up for sale cannot culminate in the identification of a purchaser who admittedly does not have the means to pay that price.”

The Court held that KFC's conduct cast serious doubt on its bona fides and breached its statutory obligations under Section 29 of the State Financial Corporations Act. Emphasising KFC's role as trustee of the mortgaged property, it held:

“…the entire exercise of sale carried out by the respondent Corporation as one that was in breach of its statutory obligation to display fairness and reasonableness in its actions as a trustee of the mortgaged property of the petitioner/appellant-borrower.”

Lastly, the judges also noted that the property's realisable value had significantly declined during the COVID-19 pandemic and found that the borrower had consequently suffered prejudice.

Accordingly, the High Court set aside the auction sale and directed KFC to obtain a fresh valuation of the property and conduct a fresh auction within six months.

For Appellant: Senior Advocate Lakshmi Narayan R and Advocate N Raynold Fernandez

For Respondents: Senior Advocates George Poonthottam, Dhanya P Ashokan, Advocates R A Asalatha Varma, CGC, M.R Arun Kumar, Senior Govt Pleader, Nisha George, M.R Venugopalan, Standing Counsel (KFC), S Sreekumar (Kollam), S Muhammed Alikhan, Anjana S Raj, Gayathri Venugopal and A.A Akhila Sree Parvathy