Will This Upcoming IPO Be the Next SolarCity?

SolarCity (SCTY.DL) has taken the solar industry by storm since going public in 2012 and has been one of the best ways for investors to play the booming residential solar market. Now Vivint Solar, which has the second-largest market share in residential solar, is looking to go public this fall and raise around $200 million to fund expansion.  

Source: Vivint Solar.

So is Vivint Solar the next SolarCity, or is there something that makes one company better than the other? Let's look at what these two companies do and how investors should consider them.

How Vivint Solar and SolarCity are the same
What both SolarCity and Vivint Solar do best is sell, install, and finance residential solar systems.

Both companies own their sales networks, along with the trucks that install residential solar systems; they also offer their own financing with equity and debt investors. This is a key distinction from companies such as SunPower (SPWR -1.02%), Clean Power Finance, Sunrun that specialize in a specific part of the value chain but don't own all of it.

SolarCity workers install a rooftop solar system. Source: SolarCity.

As of right now, neither company is a solar panel manufacturer (although SolarCity is building out that capability). They have both relied on Chinese solar manufacturers to provide panels at low costs, although they are transitioning from those supply sources as tariffs on Chinese imports are put in place.

The other big commonality between SolarCity and Vivint Solar is standardization. They focus on using a small number of suppliers to lower installation time and cost. For example, until SolarCity bought Zep Solar, it was the main supplier of racking to Vivint Solar, and Enphase Energy is the sole supplier of inverters.

On the surface, these two companies are very similar. But investors need to understand the subtle differences before buying one or the other.

What makes them different
SolarCity has a wide margin in sheer size over Vivint Solar. SolarCity operates in 13 states and Washington D.C., and is expanding that footprint quickly. Vivint Solar focuses on the East Coast, particularly Massachusetts, Maryland, New Jersey, and New York, where it can leverage parent Vivint's sales network. It is trying to expand into Arizona, California, and Hawaii, but isn't a dominant player in those three markets.

The chart below shows that SolarCity is three to five times larger than Vivint Solar on a number of operating metrics.

Note: SolarCity reports new contracts instead of installations. Source: Earnings releases and SEC filings.

Notice that Vivint Solar's retained value per watt figure is significantly higher than SolarCity, but it is dropping rapidly as competitors grow in its home East Coast market. Over the long term, I'd expect the company's retained value per watt to fall below SolarCity's.

A residential solar community with systems from SunPower. Source: SunPower.

Operationally, Vivint Solar sells systems primarily door to door, while SolarCity uses a diverse number of sales channels. This has also led to a 43% turnover rate among sales staff in 2013, which may be key because customer service will likely drive solar sales over an extended time frame.

There also aren't indications at the moment that Vivint Solar is moving into solar loans, something SolarCity is exploring. This is key: The high retained value per watt figures seen above won't last because consumers can capture much of that value themselves by buying solar systems with a loan.

Another key difference between these two companies today is that SolarCity is attempting to vertically integrate further into the value chain. SolarCity bought racking maker Zep Solar and recently acquired Silevo to move into solar panel manufacturing. Vivint Solar has stayed focused on installing, rather than moving into manufacturing.

Foolish takeaway
Clearly, until Vivint Solar goes public and we see how the market has valued the company we won't know whether the stock will be a good buy. For now, we can only look at how Vivint Solar compares to close competitor SolarCity. They have a number of of similarities, but also some key differences that will affect how these companies grow over the long term.