UPDATE 2-Chattem profit beats Street; sees dip in gross margin

* Q2 EPS $1.26 vs est $1.21

* Q2 revenue $121.8 mln vs est of $123.6 mln

* Sees FY gross margins to fall slightly

* Sees FY rev to meet or miss low end of long term goals

* Shares down as much as 7 pct (Adds conference call details, analyst comment, updates share movement)

BANGALORE, July 9 (Reuters) - Chattem Inc CHTT.O posted a quarterly profit that beat market expectations, but shares of the company reversed pre-market gains to trade down as much as 7 percent after the personal-care products maker said its full-year gross margins may fall short of its prior estimate.

"Despite the strong headline earnings print, we view the underlying composition to be of a weak quality as the entirety of the 5-cent beat came from cuts to advertising and promotion," Michael Kelter, analyst with Goldman Sachs, said in a note.

The analyst said he would advise investors to sell as he was "growing increasingly pessimistic about the company's prospects in the back half of the year."

Despite the quarterly earnings beat, the company backed its full-year earnings view and warned that revenue could come in at, or below its long-term goal of mid-to-high single digit organic growth rate.

On a conference call with analysts, the company said it expects gross margin for the current financial year to be slightly below its earlier expectation of 70 to 72 percent, reflecting the impact of promotional programs and costs.

However, the Chattanooga, Tennessee-based company said it was looking at possible acquisitions and had generated an additional $16 million of cash since the end of the second quarter.

"We're seeing some opportunities and we think there are a lot of people kind of barely hanging on, which is why we're pushing cash flow," a company executive said.

"We want to be very strong when some of these brands that are struggling and some of these companies that are struggling start ... distressed merchandising. We want to be ready for that."

SECOND-QUARTER RESULTS

The company, which makes and sells household and personal-care products like over-the-counter drugs, toiletries, cosmetics and dietary supplements, posted net income of $24.2 million, or $1.26 a share, compared with $20.7 million, or $1.06 a share, in the year-ago quarter.

Revenue at the company, whose brands include skin care powder Gold Bond and pain relief product Icy Hot, rose 4 percent to $121.8 million for the quarter ended May 31. Domestic revenue increased 7 percent to $116 million.

Analysts on average expected earnings of $1.21 a share, before special items, on revenue of $123.6 million, according to Reuters Estimates.

For the current financial year, it continues to expect earnings of $4.80 to $4.90 a share, excluding items, while analysts were expecting the company to earn $4.51 a share.

Shares of Chattem, which were up $2.56 before the bell, fell as much as $4.68 to $58.26 in intra-day trade, before paring most of those losses to trade down 57 cents at $62.37 later in the day on Nasdaq. (Reporting by Nivedita Bhattacharjee in Bangalore; Editing by Anne Pallivathuckal, Himani Sarkar)