Daehan Investment Trust & Securities is said to be about to issue requests for proposals from a variety of consulting firms to help it clean up its organization, given the increasingly likelihood that the Korean government will attempt to sell it or its fund management affiliate.

Daehan ITS and its funds arm, Daehan Investment Trust Management Company (Daehan ITMC), is one of three of Korea's big 'problem' funds organizations. Hyundai ITS has been the subject of sales negotiations with Prudential Assurance, the number-two life insurance company in the United States. Korea ITS (now called Hankook), the third problem company, is expected to follow Daehan's lead.

Cleaning up these hangovers from the Asian financial crisis would be welcomed by the entire funds management industry, both local and foreign.

The origins of the current problem stem to the very foundation of Korea's funds industry, when the first big investment trust companies were founded as 'investment trust companies'. In 1974, Korea Investment Trust Company was the first company allowed to manufacture and distribute unit trusts; Daehan ITC followed in 1977. At the peak in 1999, Korea's top-three ITCs managed W250 trillion ($21 billion) of assets. But they were crudely managed, with no sense of risk control, and in the wake of the Asian financial crisis, were shoehorned into national service (infamously with Hyundai ITC's "Buy Korea Fund"). In August, 1999, the collapse of the Daewoo group exposed huge losses in the three national ITCs' portfolios.

The government stepped in, requiring the ITCs pay investors in full, and bailing the firms out for the difference. The ITC was legally demolished, and forever after the government separated distribution from manufacturing. The ITCs - which at heart were securities companies selling unit trusts - were separated into proper securities companies, the ITS, and the fund management affiliate, the ITMC.

The securities companies promised to take steps to restore profitability, but have failed. These three ITMCs continue to dominate the industry: Daehan and Hyundai ITMCs each manage W17 trillion ($14 billion), while Hankook ITMC has W16 trillion. They remained the top-three biggest unit trust companies in Korea, until Samsung Life spun off its assets into Samsung ITMC last year. These three state-owned fund companies remain awkward problems: their size and poor reputation, as well as the impact they have on fee arrangements (the securities companies get around 94% of fees on unit trusts as a result of their continued exposure to loser portfolios) all hold the funds industry back.

The government has been in talks with Prudential to acquire Hyundai Group (following the collapse of similar talks with AIG), and thus take Hyundai ITMC's troubles off Seoul's hands. Now with negotiations over Hyundai apparently nearing a conclusion, the government recognizes that a solution for the other two must be found.

The broad options are to cut them loose and let them fight for survival (highly unlikely), to merge them into one big ITS and ITMC (without the layoffs that could lead to profitability gains), or sell them. Several foreign fund houses and distressed specialists such as Lone Star are said to have explored buying either of these two state-owned firms, provided they could get the same generous terms that Prudential is fighting for.

But for now, Daehan and Hankook remain in dreadful condition. Last year's crises - the collapse of SK Global and problems with bonds issued by credit card companies - have only worsened their portfolios. Another government bailout to the tune of $4-5 billion is probably required before they can be sold.

As a result of government pressure, Daehan is going to hire a consultant to help it prepare for this process, according to a consultant who has been in discussions with the firm. Daehan is likely to cast a wide net, from accounting firms to investment consultants, from management specialists to human resources firms, and even Korean think tanks.

"Daehan and Hankook aren't in crisis mode," says the consultant. "There have been few internal changes. They want a consultant to put in the effort and give them a clean bill of health so they can move on to the next stage."

Initially, Daehan was looking only to implement a pay-for-performance system, but realized that to do so meant overhauling performance analysis, distribution, sales incentives, business strategy, even the corporate ideology.

Outsiders are sceptical that a consultant's band-aid will do much to improve the situation. "The problem is what's in these companies' portfolios," says a foreign fund management executive.