Average shareholders equity is an averaging concept used to smooth out the results of the return on equity calculation. This concept yields a more believable return on equity measurement.

The average shareholders equity calculation is the beginning shareholders equity plus the ending shareholders’ equity, divided by two. Thus, the formula is:

The concept is most useful when measuring the return on investment in a period in which a business has sold a large amount of stock. In this case, the ending shareholders equity figure will be much higher than the beginning figure, which results in a substantially lower return on equity calculation. If there are few stock sales over time, this means that a trend line of return on equity measurements will reveal a sharp dip in any period in which stock is sold, even if the overall returns of the business are approximately the same over time.

**The concept may be built directly into the return on equity formula, where the average is stated in the denominator, as follows**:

Average Shareholders Equity is a variation of the return on equity formula which calculates the shareholders’ equity component by adding shareholders’ equity at the beginning of a time period to the shareholders’ equity at the end of that time period and averaging the total.