Reynolds American Inc.’s (RAI - Analyst Report) adjusted earnings of 95 cents per share in the third quarter of fiscal 2014 beat the Zacks Consensus Estimate of 91 cents by 4.4%. Earnings also improved 10.5% year over year backed by higher cigarette and moist snuff pricing, which more than offset increased investment in the Vuse brand of e-cigarettes.

Adjusted earnings per share exclude a 3-cent impact due to the transaction and financing cost, implementation cost and charges related to the Engle Progeny lawsuits, other tobacco-related litigation and Non Participating Manufacturer (NPM) Partial Settlement with two additional states.

Revenues and Operating Margin

Reynolds’ net sales gained 4.9% year over year to $2.24 billion due to higher sales in all its segments. Quarterly net sales also beat the Zacks Consensus Estimate of $2.18 million by 2.8%.

Adjusted operating income went up 5.4% to $852 million due to higher pricing of moist snuff and cigarettes.

Segment Details

RJR Tobacco: Segment revenues gained 3.6% to $1.79 billion in the quarter backed by higher market share of brands like Camel and Pal Mall.

Volumes declined 4.3% in the segment due to shift of demand to smoke-free alternatives. RJR Tobacco’s market share declined 0.1 percentage points (pp) year over year to 26.6% in the third quarter due to a decline in market share in non-core brands

Although volumes declined and tough industrial conditions prevailed, Camel and Pall Mall brands reported substantial market share gain during the quarter. While Camel’s market share increased 0.4 pp to 10.4%, that of Pall Mall went up 0.1 pp to 9.3%.

Compared with the year-ago quarter, the segment’s adjusted operating income climbed 14.6% to $748 million, as higher pricing and lower operating cost offset a decline in volume. Adjusted operating margin inflated 4.1 pp to 41.6%.

American Snuff: Segment revenues increased 9.2% year over year to $202 million in the third quarter driven by volume growth and market share gains.

Volumes increased 2.9% year over year in the quarter mainly due to higher wholesale inventories. The moist snuff market share slipped 0.1 pp year over year to 34% due to lower consumer spending. Grizzly brand’s market share increased 0.1 pp year over year to 31.1%. The brand benefited from strong demand for Grizzly’s pouch styles and Wintergreen offerings.

Adjusted operating income increased 10.9% year over year to $117 million, driven by higher moist snuff volume and positive pricing. Adjusted operating margin increased 0.8 pp to 57.8%.

Santa Fe: Segment revenues increased 11.8% year over year to $179 million in the quarter backed by higher volume.

The segment’s super premium brand Natural American Spirit’s volume inflated 7.9% year over year, and market share went up 0.2 pp year over year to 1.7%.

Adjusted operating income increased 19.1% year over year to $98 million, driven by pricing and volume gains. Adjusted operating margin inflated 3.5 pp year over year to 54.5%.

Other Financial Update

Reynolds American spent $267 million to purchase 4.8 million shares during the quarter. The company also completed its $2.5 billion share repurchase program started in Nov 2011.

Reynolds announced that it has entered into an agreement to take over rival Lorillard Inc. (LO - Analyst Report) for $68.88 per share or $27.4 billion, including assumption of net debt. Investors are, however, of the opinion that Reynolds is paying far too much for the company. Investment bank Lazard Ltd. (LAZ - Analyst Report) will act as a financial advisor in the takeover process.

Reynolds is working to obtain shareholder’s approval and other formalities associated with the proposed takeover of Lorillard. The company has been asked to provide additional information regarding the takeover by antitrust authority Federal Trade Commission (FTC).

The combined entity might pose a threat to its peer Altria Group Inc. (MO - Analyst Report), which manufactures Marlboro cigarettes and commands more than 40% market share in the U.S.

Reynolds accelerated the nationwide distribution of its newly launched electronic cigarette Vuse nationwide during the quarter. The brand is scheduled to be available in 70,000 outlets early next week, which will be followed by another wave of expansion in fiscal 2015.

Guidance Maintained

Reynolds American, which currently carries a Zacks Rank #4 (Sell), reiterated the fiscal 2014 guidance. The company expects earnings in the range of $3.35 to $3.45 compared with $3.30 to $3.45 expected earlier. The guidance reflects an increase of 5% to 8.2% from fiscal 2013 earnings of $3.19. The company expects to increase its investment in the Vuse brand in fiscal 2014.