Price Index: Definition, Calculation, and Function

Price Index: Definition, Calculation, and Function

by Prisync
July 10, 2018

Price Index is the metric that shows your price positioning in the market. We’ll talk about how observing the price index helps in improving sales, controlling the positioning of your brand, and finding loopholes to rise among competitors. More to that, we’ll learn how to measure it. If you’re ready, let’s dive in.

What is price index (PI)?

For e-commerce businesses, price index refers to the metric that illustrates how your products, categories, or brands are positioned in the market. This information empowers business owners in so many aspects but before jumping into that, let’s learn how to calculate PI.

As a first step, you must track competitor prices to pinpoint your positioning in the market. Who gives the best prices and how can you beat them?

Price index calculation for a single product

For a single product and competitor, it’s quite simple.

Price Index Formula

Divide the competitor’s price by yours and multiply it by 100.

Price Index Formula

To determine the price index for a single product for many competitors, add up all competitor price indexes and divide it by the number of competitors.

How to control your positioning in the market?

When your price is way below the market average, you certainly attract demand. However, a high demand without a good profit margin means that you’re leaving a lot of money on the table.

An essential part of a successful business strategy is optimizing the price-demand relationship. You must find the balance point where your business generates the most revenue.

Offering iPhone 11 for $550 will attract so many customers and a lawsuit from Apple besides the fact that it’ll cut into your profits.

A more logical approach would be taking competitor prices into account. You can set the iPhone’s price 5% cheaper than its PI, and still boost your sales. PI is your reference point to make sure you’re offering a below-average price without seriously cutting into profits.

Furthermore, when you want to test prices to find the optimal price-demand ratio, PI is the metric you are looking for. Rather than testing random price cuts, you’ll be able to analyze the impact of a, say, 5% price change. Your testing becomes systematical and much more easy to apply.

Expanding PI to a category of products, a single brand, or all of your products will open up many opportunities for optimization. All of this data will reveal different insights and test cases.

What’s the primary benefit of having PI information?

Suppose a competitor’s PI of a single brand is much lower than yours across all products. The most logical explanation is that the competitor signed a better deal with the supplier. Now that you figured it out, you can ask the supplier to give you the same price. This is extremely valuable information not only because it gives you leverage when dealing with the supplier, but also because it reveals an aspect of the competitor’s business strategy.

Or, you can calculate categorical PIs. Let’s say your business does well on consumer electronics but doesn’t compete well on fashion products. Depending on your business strategy, you can invest in improving the problematic category, or you can focus on maintaining your competitive strength in the electronics category.

All of the examples above can be modified according to your needs and objectives. But the crucial point here is that PI allows you to make decisions based on market and competitor insights. Meaning, it helps you make well-informed decisions for your pricing image.

Retrospective analysis will sweep away uncertainties

Retrospective analysis of one year PI data will reveal a great deal of useful information. Suppose you sell in-house speakers, and your sales are not very stable. For example, you normally sell 150 per week, but sometimes it becomes as low as 15 units.

More to that, it’s the only product category that you experience this size of a difference in the sales volume. To find out the reason for the incoherent fluctuation, you decided to analyze past year’s historical price data.

It turns out, a certain competitor has been offering out of the blue discounts for the in-house speaker category, and that’s when your sales drop. So, now that you have all of this info, you can take long-term measures.

One of the tactics you can apply against this competitor is to drop your prices simultaneously. An easy and effective way to adjust prices against competitors is via pricing software. The software automates the price tracking process, adjusts prices against competitors and provides historical price data.

One way or another, analyzing PI information will disclose competitors’ strategy and valuable insights.

Quick takeaways

Price Index is the metric that illustrates where your products, category of products or all the products are positioned in the market. You can calculate them manually with the formulas above, or use pricing software to obtain PI information and test various price points with very little effort. PI information helps you:

  • Control your positioning
  • Unfold competitor tactics
  • Make well-informed decisions
  • Develop a long-term strategy.

Frequently Asked Questions

How do you calculate price index?

Divide a single competitor’s price by yours and multiply it by 100. Repeat this process for all competitors, add up all your results and divide them by the number of competitors.

What are the uses of price index?

– Control your price positioning
– Unfold competitor pricing strategies
– Make well-informed decisions

What does price index mean?

For e-commerce owners, price index is the metric that shows how your products, categories, or brands are positioned in the market.

1 Comment
  1. chandapiwa morapedi
    February 27, 2020

    i need your help on pricing

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