Failed Auctions, Litigation Concerns Cannot Depress Secured Asset Value Under SARFAESI: DRAT Chennai

The Debts Recovery Appellate Tribunal (DRAT), Chennai, on 13 May held that a mere apprehension of litigation and the failure of earlier auctions cannot, by themselves, justify a substantial reduction in the market value of a secured asset.

A Bench presided over by Justice G. Chandrasekharan allowed the appeal filed by ITG Energy Ltd. and others and set aside a SARFAESI auction conducted by CSB Bank after finding that the borrower's property had been grossly undervalued and sold through a flawed and collusive bidding process. It held:

“The apprehension of litigation may be a reason for avoiding of litigious sale, but that may not be the reason for reducing the market rate.”

The dispute arose from an overdraft facility availed by ITG Energy Ltd. from CSB Bank in 2013. The facility was subsequently restricted to Rs. 1.75 crore. The borrower failed to reduce the outstanding dues in accordance with an agreed monthly reduction of Rs. 25 lakh and also defaulted on interest payments. Consequently, the Bank classified the account as a Non-Performing Asset (NPA) in March 2018.

Thereafter, the Bank made eight unsuccessful attempts to auction the mortgaged property. It eventually sold the property on 25 August 2020 to P.K. Peer Mohammad for Rs. 2.05 crore, with the successful bid exceeding the reserve price by only Rs. 25,000.

The borrowers challenged the sale, contending that the Bank had progressively reduced the reserve price from Rs. 5.08 crore to Rs. 2.05 crore, resulting in a sale at a grossly undervalued price. They also alleged that the auction lacked genuine competition and that one of the bidders had merely participated to facilitate the successful bidder.

The Bank defended the auction by relying on repeated auction failures, prevailing market conditions and the economic slowdown during the COVID-19 period. The auction purchaser argued that he was a bona fide purchaser who had paid the entire sale consideration within the prescribed time.

The Tribunal rejected the challenge to the NPA classification. It found that the account had remained overdrawn for more than 90 days and that the borrower had failed to meet its interest obligations. However, it accepted the challenge to the valuation and sale process.

It also noted that while the borrower valued the property at Rs. 4.25 crore, the Bank assessed it at approximately Rs. 2.41 crore by adopting a market rate of only Rs. 950 per sq. ft. It found that the Bank had reduced the property's value to nearly 56% of the guideline value despite its own policy requiring the reserve price to be fixed at not less than 80% of the fair market value.

Examining the valuation report, the Tribunal found that the valuer had relied on factors such as local enquiries, COVID-19 conditions, failed auctions and poor market conditions without providing any supporting data. It held that the failure of previous auctions could not justify a reduction in the intrinsic value of the property, particularly when the guideline value remained substantially higher.

The Bench observed that apprehension of litigation might deter prospective bidders from participating in an auction, but it could not serve as a basis for reducing the market value of the property. It held that it was “...clear that the land was grossly undervalued.”

The Tribunal also found serious irregularities in the bidding process. Both bidders initially submitted identical bids matching the reserve price, and the successful bidder's company had funded the earnest money deposit of the other bidder. The bidding increased by only Rs. 5,000 before the second bidder withdrew.

On these facts, it concluded that the auction created only an appearance of competition and amounted to a “make it believe competitive bidding, rather a farce bidding.” It held that the circumstances clearly indicated collusion between the bidders. It observed:

“There is no doubt that the Auction Purchaser's right has to be protected. When the property was grossly undervalued and sold for an insufficient price, and there is collusion between the bidders, such a tainted sale cannot be permitted to stand, merely because previous sale attempts failed.”

The Tribunal upheld the measures taken by the Bank under the SARFAESI Act up to the stage of taking possession of the secured asset. However, it set aside the valuation process, reserve price fixation, sale notice and auction sale. It also set aside the order passed by the DRT-II, Chennai.

The Bench directed the Bank to refund the sale consideration to the auction purchaser along with applicable interest, registration charges and stamp duty. It further directed the Bank to conduct a fresh sale of the secured asset in accordance with law.

Accordingly, the DRAT allowed the borrowers' appeal.

Counsel for Appellant: Mr. R. Gowthama Narayanan

Counsel for Respondent 1: Ms. V. Rajeswari

Counsel for Respondent 2: Learned Sr. Counsel Mr. E. Omprakash for Ms. S. Anuradha Balaji