* Netflix seeks originals to compete with rivals
* 'Lilyhammer' show called a success
* Stock sinks after earnings report disappoints
By Lisa Richwine
LOS ANGELES, April 24 (Reuters) - An experiment with a fish-out-of-water story about a New York mobster who relocates to frosty Norway helped convince Netflix Inc to add more original programming to its video-subscription service as it undergoes a transition.
"Lilyhammer," starring Steven Van Zandt, a guitarist in Bruce Springsteen's band whose acting credits include playing a wiseguy in HBO's "The Sopranos," racked up enough viewing hours that Netflix declared it a success. The company, based in Los Gatos, California, said it would build its slate of original programming to take on HBO and other cable channels that win viewers by producing their own shows.
The plan to add original programming is one way Netflix hopes to boost its bottomr line as it navigates the transition from its roots as a DVDs-by-mail rental service to streaming movies and TV shows to its customers' televisions, computers or mobile devices such as the iPad.
Netflix didn't say what it expects to pay for original production.
But analysts said the video company could spend up to $100 million this year as it ramps up its production. The company is licensing the political drama "House of Cards," starring Kevin Spacey, as well as new episodes of one-time Fox television show "Arrested Development."
"The more successful we are with original content, the more we would tend to invest," Netflix CEO Reed Hastings said in an interview.
Netflix hopes original shows that consumers can't get elsewhere will drive subscribers for its service that instantly streams movies and older TV shows. Adding streaming subscribers is crucial to offset declines in customers who get DVDs by mail.
On Monday, the company projected slower growth among U.S. streaming subscribers, which disappointed investors. By the end of the year, Netflix expects to add 7 million customers to the business, roughly the same as in 2010.
Netflix shares fell 13.9 percent to close at $87.68 on Nasdaq on Tuesday. For the year, the stock is up 27 percent.
Netflix also has licensed horror series "Hemlock Grove," a murder mystery set in a Pennsylvania steel town, and a prison comedy, "Orange is the New Black."
With "Lilyhammer," Netflix released all eight first-season episodes simultaneously on Feb. 6, which it says gives it an advantage over TV channels like HBO that fit shows into a schedule.
The company said the series drove "millions" of viewing hours among its subscribers.
The cost to produce the show "compares favorably to content that we're licensing from other producers," Hastings said, in terms of its expenditures and the numbers of viewers each gets.
Netflix had considered original programming an "experiment" but now feels confident enough to call it an "expansion" of its business beyond rentals of other companies' movies and TV shows, Hastings and CFO David Wells said in the company's quarterly letter to shareholders.
"We are now treating it as a capability we should build," they said.
Less than 5 percent of Netflix's content spending now goes to originals, and the company is unsure when or if it will increase that percentage. Costs to license, acquire and deliver content reached $1.8 billion last year, according to a regulatory filing.
Netflix likely will spend between $75 million and $100 million this year on original content, Piper Jaffray analyst Michael Olson estimated.
Original shows could give Netflix a "huge competitive advantage" if it can create compelling content "at a reasonable price," Olson said. He rates Netflix stock "overweight" and has a $130 price target.
Janney Montgomery Scott analyst Tony Wible thinks original programming is a necessity for Netflix.
"When you look at what is available for licensing, most of the exclusive rights are already accounted for," said Wible, who rates Netflix a "sell" with a $70 price target. "For Netflix to stand apart from the growing list of competitors, they have to have things that are unique and exclusive."