Nov. 11 (Bloomberg) -- GSC Group, an $18 billion investment firm specializing in high-yield, high-risk debt, may fail after the value of its holdings plummeted.

“They need to figure out a way to remain in business,” Matthew Noll, an analyst at Moody’s Investors Service in New York, said today in a telephone interview. “We believe the most detrimental outcome would be if they had to file for bankruptcy or liquidate the company.”

GSC, founded in 1999 by former Goldman Sachs Group Inc. partner Alfred Eckert, isn’t generating enough in fees to repay $210 million of loans after the value of its funds tumbled during the worst financial crisis since the Great Depression. Leveraged loan prices have gained 45 percent this year after tumbling an average of 28 percent in 2008, a record according to the S&P/LSTA U.S. Leveraged Loan 100 Index.

Yesterday, Moody’s downgraded GSC’s borrowing unit, GSCP (NJ) LP, by one level to C, the lowest-rated class of debt. The ratings company defines C graded debt as “typically in default, with little prospect for recovery of principal or interest.” Creditors face losses of more than 50 percent on the loans, Moody’s said in a report by Noll and analyst Kathryn Kerle.

Carl Crosetto, a GSC managing director, didn’t return a call seeking comment.

‘Going Concern’ Challenges

GSC “will face significant challenges as a going concern” after investment losses and defaulting on the loans, the analysts wrote. The firm’s investments are likely to remain at distressed levels, they wrote.

“While they’re benefiting to some degree from market improvements, in our estimation it’s not enough to reach 50 percent recovery on their loan,” Noll said. “Earnings capacity has been substantially depleted.”

Moody’s, which dropped its coverage of GSC, citing “a lack of adequate information,” said in a May 4 report the firm has been under “significant rating pressure” since December 2007.

High-yield, high-risk debt is rated below Baa3 by Moody’s and less than BBB- by Standard & Poor’s.

Eckert founded Goldman’s leveraged buyout department in 1983 and co-headed its merchant bank, according to GSC’s Web site. GSC issued debt partly to pay two “meaningful shareholder dividends,” Moody’s wrote in October 2008.

GSC has nine U.S. collateralized loan obligations, pools of loans split into varying degrees of risk, and five in Europe. The firm also manages so-called mezzanine and distressed funds.

“While they’re benefiting to some degree from market improvements, in our estimation it’s not enough to reach 50 percent recovery on their loan,” Noll said. “Earnings capacity has been substantially depleted.”

To contact the reporter on this story: Pierre Paulden in New York at ppaulden@bloomberg.net

Last Updated: November 11, 2009 15:58 EST