The morphogenesis and functional differentiation of mammary epithelium depends on signalling from systemic hormones and on cues from the local tissue microenvironment. With regard to the latter, regulatory cues are mainly provided by two subcompartments of the mesenchyme/stroma [fibroblastic and adipocyte] and the subjacent basement membrane. During embryogenesis, fibroblastic mesenchyme determines the sexual phenotype of the gland while adipocyte mesenchyme controls mammary-specific ductal morphogenesis. In the juvenile animal, adipocyte stroma continues to support ductal expansion while fibroblasts negatively regulate ductal outgrowth via interactions with the epithelium possibly involving TGF-beta mediated deposition of collagen I and chondroitin sulphate. In the adult, evidence from culture studies show that the signals required for the induction of tissue-specific differentiation during pregnancy and maintenance of function during lactation arise primarily from basement membrane. Beta-casein synthesis is induced in single mammary epithelial cells embedded within a basement membrane matrix via an integrin-dependent pathway. Further support for a critical role for basement membrane in the functional differentiation of the gland comes from studies in involution where degradative loss of basement membranes correlates with loss of functional activity in the epithelium. Thus the extracellular matrix in conjunction with certain cytokines plays a central role in coordinating mammary epithelial development. The findings discussed give further credence to a modal where mammary epithelium, together with certain elements of the subjacent microenvironment, form a dynamic and reciprocally interactive functional unit that regulates tissue specific gene expression in the mammary gland.