Outsourcing, Modularity and the Theory of the Firm

In recent years the practice of 'outsourcing' and 'offshoring' of production and services by firms in a wide range of industries has become quite common. This represents a change in the organization of production in many firms, from vertical integration to what has been called 'vertical specialization.' As such, it challenges theorists in management, economics, and the law to rethink some of the accepted explanations that theorists have offered about why individual firms exist at all. Why is it that some productive activity is organized through arms-length exchanges in markets, while some is governed by formal contracts, and other activities tend to be carried out within the boundaries of individual firms?