Rodin Eckenroth/Getty Images
- Netflix generated record revenue last quarter, thanks to hits like "KPop Demon Hunters" and "Squid Game."
- But Netflix shares tumbled 10% after a $619 million tax expense dragged down its net income.
- Despite the miss, execs expressed optimism about ad sales before fielding questions on M&A and Sora.
Netflix's quarter — and stock price — was dragged down by a hefty $619 million tax-related expense that took Wall Street by surprise.
Netflix shares dove 10% during trading on Wednesday after its third-quarter earnings per share came in $1 lower than the company had previously projected.
The streaming titan's net income last quarter was $2.55 billion, or $5.87 per share, which was well under Netflix's guidance of $6.87 and analysts' consensus estimates of $6.94.
Netflix executives told shareholders there was a simple explanation for this significant miss: an "ongoing dispute" with Brazilian tax authorities that cost it $619 million.
This unwelcome surprise came as Netflix accounted for expenses it incurred from 2022 through last quarter, after determining that it would likely be subject to a 10% transactions tax in Brazil following a ruling from the country's high court in August in a case involving another firm, Netflix finance chief Spencer Neumann said on the earnings call.
"Absent this expense, we would have exceeded our Q3'25 operating margin forecast," Netflix said in its shareholder letter.
The company disclosed in its second-quarter 10-Q filing that it was "involved in a number of matters with Brazilian tax authorities regarding nonincome tax assessments." Netflix had said that although a loss was "not probable," "the final outcome may be materially different from our expectations."
"We don't expect this matter to have a material impact on future results," Netflix wrote in its release after disclosing the expense.
Still, media analysts weren't too concerned about this hiccup following the third-quarter report.
Morgan Stanley's Ben Swinburne said Netflix's operating margin would have hit 32.5% if not for the catch-up payment, which was a full percentage point above his estimate.
MoffettNathanson's Robert Fishman wrote that Netflix's costs rose more slowly than anticipated — excluding the Brazil tax hit.
And Hernan Lopez of media consulting firm Owl & Co. estimates that Netflix's Brazil tax expense shouldn't move the needle much moving forward for a company generating $3 billion in operating income a quarter. Netflix's operating income last quarter was $3.25 billion.
Tax drama overshadows record revenue
Netflix's tax snag took attention away from what was otherwise another standout quarter, complete with record-setting revenue.
Revenue rose 17.2% to a record $11.5 billion in the third quarter, in line with analysts' expectations and the company's guidance.
Subscribers were hooked on Korean-themed megahits like "KPop Demon Hunters" — its biggest movie ever through three months— and "Squid Game," as well as live boxing event "Canelo vs. Crawford."
The company also said its ad tier, a key growth area for the streamer, had its "best ad sales quarter ever" and doubled commitments from US advertisers.
Netflix execs talk M&A, generative AI
Netflix has faced questions of whether it could be a suitor for Warner Bros. Discovery, which has said it's planning to split itself next year.
Paramount CEO David Ellison is reportedly planning to bid on all of WBD. The company said on Tuesday that it's open to the sale of the entire company or parts of it, and has received interest from multiple interested parties, including Netflix and Comcast, CNBC and Bloomberg reported.
When asked about M&A, Netflix executives didn't directly address those reports or hint at a deal in the works.
"It's true that historically, we've been more builders than buyers. And we have plenty of runway for growth without fundamentally changing that playbook," Netflix co-CEO Ted Sarandos said on the earnings call. He said that "nothing is a 'must-have'" for the company to hit its goals.
However, Sarandos didn't rule out future transactions via "selective M&A," either. When evaluating potential M&A, Netflix looks at factors including whether the investment is "a big opportunity," Sarandos added.
"We can be — and we will be — choosy," Sarandos added.
When asked about AI, Netflix co-CEO Greg Peters said the company's view of the technology hasn't changed much, and that it's planning to use AI tools to improve its product, content, and advertising.
As for whether generative AI apps like OpenAI's Sora 2 are a threat, Sarandos said they're more likely to take viewership away from apps focused on user-generated content, which include TikTok, Instagram, and YouTube. Sarandos suggested that Netflix's professionally produced content is less at risk.
"It takes a great artist to make something great," Sarandos said.
Healthy engagement drives revenue
Netflix's robust revenue growth suggests that its never-ending mission to improve engagement is working.
Despite stiff competition from YouTube, content creators, and AI-powered video apps like Sora, Netflix had its best-ever quarter of viewership on US-based smart TVs, according to Nielsen data dating back to May 2021. Nielsen found that Netflix averaged an 8.6% viewership share from July through September — far higher than any other paid streaming service.
However, Netflix is still well behind YouTube in engagement. The Google-owned streamer averaged an enviable 13% viewership share on smart TVs in the third quarter, per Nielsen.
Netflix is trying to close the gap with likely its biggest rival by adding video podcasts and luring YouTubers like Ms. Rachel. Some Wall Street analysts believe the streaming powerhouse should go even further by investing in short-form video.
Editor's note: This story was first published on October 21 and has been updated with the Netflix stock reaction.
