In order to dive into the heart of answers to the questions arisen in the end of Chapter 3, a consistent theoretical framework must be developed. This chapter will serve as the ‘theoretical chapter’ of this book. In the first section, I briefly review the theories of institutional economics and induced institutional innovation. The transaction costs theory of firm governance structure and the environmental disequilibria induced institutional innovation of the new institutional economics have laid the theoretical foundation for the entire research, and guided the search for the factors that may have had influences in TVEs’ contractual form determination and innovation. These factors are demonstrated in Section 2. A principal-agent model is formulated in the third section to capture the effects of those factors, and to illustrate the mechanism through which the external variations are translated into the determination and evolution of TVEs’ contractual structure. In Section 4, the theoretical model is simulated to generate comparative static results. These results predict the possible correlation between exogenous factors and the contractual form of the firm in a testable format.