When you’re evaluating most new stocks, it makes good sense to look at technical indicators – such as price-to-earnings ratio (P/E), profit margins, or revenue per share, to name a couple – so you know what you’re buying.

But here’s the rub. When you’re scouting a promising biotech stock, the indicators I mentioned just won’t tell you what you need to know.

Of course, we’re dealing with a sector that can hand out uncommonly large profits, so our approach needs to be a little different.

Weigh these before you take your next biotech position, and you’ll enjoy much bigger potential profits and lower your risk…

Why the Usual Indicators Just Won’t Work

The reason is pretty straightforward: many small- and mid-cap biotechs haven’t yet made a profit and probably won’t for years to come.

Unlike big pharmaceutical companies, these smaller startups focus their time, money, and effort on research and development, rather than marketing new products.

In fact, many of them don’t maintain a sales force and have no intention of building one. Instead, they rely on business partnerships with companies that concentrate on selling products to get their medications into the hands of doctors and hospitals.

For income, they rely on royalties, milestone payments, and public offerings of common stock.

Even those firms that do market their own products can go many years before seeing their first experimental drug approved, and only two out of 10 will make a profit right out of the gate, so thinking of valuation and potential in terms of profits won’t take you very far.

Generally speaking, when assessing a biotech, the first thing an investor should look at is the company’s drug pipeline. What great new medications is it developing to fill serious medical needs?

After that, however, there are some technical financial indicators – seven in all – that will prove very helpful in sizing up a stock before you buy it.

No. 1: Market Capitalization

This number is the total sum value of a company’s outstanding shares, based on current price-per-share (PPS). This number can give you a couple of valuable hints about the attractiveness of a particular stock.

If the cap is very small, below about $250 million, the PPS can be extremely volatile on very low trading volume, so liquidity may be a problem – you can find yourself needing to sell with no one there to buy.