A firm is investing retained earnings in investments earning positive returns. As a result of these investments, earnings-per-share is growing. Can we assume that common stock prices are also increasing as a result of these investments?
A) Yes, because higher earnings translate to higher dividends and, therefore, higher stock prices.
B) No, earnings will grow as long as investment earns a positive return. However, if the investments are earning positive returns that are less than their opportunity costs of capital, earnings-per-share will grow,but, stock prices will decrease.