Transactions costs are the costs associated with market transactions. The costs include search costs, contracting costs, negotiating costs, and monitoring costs. These costs increase the costs of organizing production through markets. Firms avoid transactions costs by moving the exchange out of the market and into the firm. By forming continuing contractual relationships with resource suppliers the firm avoids having to go back into the market to find resources.
Firms go back to markets when the cost of doing so is less.
Firms contract functions like data processing when an outside contract can perform the function at lower cost that the firm's employees. Professional practices are usually partnerships because it is more efficient . Professional practices provide services rather than goods and it is much more difficult to monitor effort when services are the output. One cannot tell how hard someone is working just by looking. This makes shirking a particular problem.