Netflix Inc. (NFLX) shares tumbled after reporting third-quarter results late on October 21, with the selloff revealing more than a simple reaction to an earnings miss. Beneath the headlines, investors are reliving a familiar story: in a high-valuation environment, meeting expectations simply isn’t enough.
Headline Miss, Underlying Beat
On the surface, Netflix appeared to miss earnings estimates. But the shortfall was largely the result of a $619 million one-time tax charge tied to a municipal service tax in Brazil that streaming companies had long disputed. The company finally booked the full amount, covering liabilities from 2022 onward, which cut operating margins by roughly five percentage points and made profits look weaker than they really were.
Excluding that charge, operating income would have reached $3.87 billion, up 33% year over year, with an operating margin of 33.6% — comfortably above consensus expectations. Management guided fourth-quarter results roughly in line with the market, noting the tax impact will be minimal going forward.
The Real Problem: Tepid Revenue Growth
While profits looked better on an adjusted basis, revenue growth — the truest measure of momentum — remained unremarkable. Third-quarter sales rose 17% from a year ago, broadly matching forecasts, with little help from currency tailwinds. Growth was once again driven primarily by price hikes and ad-tier expansion, rather than a surge in new subscribers.
Subscriptions: Growth Decelerates
Netflix’s steady push to raise subscription prices across the U.S. and Europe earlier this year — typically by 10–20% — provided some lift, but the gains were offset by the growing mix of cheaper, ad-supported plans. Average revenue per user (ARPU) in Western markets likely rose 6–8%, diluted by slower growth in Asia-Pacific and high-inflation Latin America, where price adjustments were limited. Overall, global ARPU probably increased just 3–5%.
Subscriber growth, meanwhile, was soft. Netflix added roughly 4 million net new users, below its two-year average. That slowdown is especially striking given the strong lineup of new content: the Korean hit KPop became the platform’s most-watched film ever, Squid Game Season 3 wrapped production, and Wednesday Season 2 ranked among the top 10 most-viewed series in Netflix history.
Despite the robust slate, growth underwhelmed. Some analysts pointed to early October’s “Cancel Netflix” movement — promoted by Elon Musk — as a factor. More likely, the price hikes and the elimination of the ad-free “Basic” plan in many regions are testing user tolerance. Many subscribers are being nudged toward ad tiers that compromise viewing experience, potentially slowing new sign-ups.
Still, with another wave of flagship releases scheduled for the fourth quarter, Netflix could yet regain momentum in user growth.
Advertising: A Work in Progress
The third quarter marked the first full period for Netflix’s first-party ad tech platform across 12 key regions. Early results were modest, suggesting the system still requires data calibration and optimization. The global macro environment hasn’t helped — tariffs and slower growth have dampened ad spending, particularly for premium-priced inventory like Netflix’s.
Nevertheless, the company reiterated its target to double ad revenue in 2025, and will integrate Amazon’s DSP system in Q4 to accelerate growth. Analysts expect total ad revenue this year to reach around $1.5 billion.
Spending Less, Buying Back More
Netflix continues to manage its cash flow tightly, splitting resources between content spending and shareholder returns. The company repurchased 1.5 million shares for $1.9 billion in Q3 at an average price of $1,250 per share, up from the prior quarter. Content spending rose to $4.6 billion, but remains visibly restrained.
Year-to-date, content investment stands at $12.6 billion, tracking below its original $18 billion full-year target. Management’s updated outlook suggests total spending will likely end between $17–17.5 billion. Despite lowering its profit guidance to reflect the Brazil tax charge, Netflix raised its free cash flow target to $9 billion for the year, implying further tightening of production budgets.
The two-year pullback in content spending may reflect both a more relaxed competitive landscape and early efficiency gains from generative AI, which could be helping the company streamline production processes.
A Familiar Pattern: Expectations Too High, Results Too Normal
Netflix’s business fundamentals remain intact — stable growth, expanding cash flow, and disciplined investment. But investors have come to expect more than “normal.” The streaming giant still trades around 35x forward earnings, a multiple that assumes steady double-digit growth in both revenue and profit.
Yet current trends suggest that may be ambitious. If annual revenue continues to grow 10–15% — driven by roughly 5% ARPU gains and 10% subscriber growth — and operating margin expansion slows due to higher R&D and ad tech costs, profit growth could dip toward 20% or less. In that case, the 35x multiple starts to look stretched.
In short: the market is questioning whether Netflix can deliver enough growth to justify its valuation.
The Long Game Still Intact
Even so, the company’s long-term story — built around price increases, ad monetization, sports content, gaming, and powerful IP franchises — remains credible. Short-term earnings don’t yet capture the payoff from these initiatives. Advertising, for instance, is in a front-loaded investment phase, where technology costs hit early but revenue scale comes later. The same logic applies to sports programming.
For now, this mismatch makes the stock look expensive. But for long-term investors, the 35x P/E anchor remains a fair reflection of Netflix’s durable advantages. As the author noted last quarter, the stock tends to look most attractive when it dips below 30x forward earnings — the point where valuation risk turns into opportunity.
Bottom Line:
Netflix isn’t broken — it’s just bumping up against the limits of its current growth cycle. With margins solid, ad tech evolving, and flagship content still resonating globally, the long-term thesis remains. But in the short run, high expectations may be the company’s toughest rival.
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