Transplantation offers a means of identifying the differentiation and myelination potential of early neural precursors, features relevant to myelin regeneration in demyelinating diseases. In the postnatal rat brain, precursor cells expressing the polysialylated (PSA) form of the neural cell adhesion molecule NCAM have been shown to generate mostly oligodendrocytes and astrocytes in vitro (Ben-Hur et al., 1998). Immunoselected PSA-NCAM+ newborn rat CNS precursors were expanded as clusters with FGF2 and grafted into a focal demyelinating lesion in adult rat spinal cord. We show that these neural precursors can completely remyelinate such CNS lesions. While PSA-NCAM+ precursor clusters contain rare P75+ putative neural crest precursors, they do not generate Schwann cells in vitro even in the presence of glial growth factor. Yet they generate oligodendrocytes, astrocytes, and Schwann cells in vivo when confronted with demyelinated axons in a glia-free area. We confirmed the transplant origin of these Schwann cells using Y chromosome in situ hybridization and immunostaining for the peripheral myelin protein P0 of tissue from female rats that had been grafted with male cell clusters. The number and distribution of Schwann cells within remyelinated tissue, and the absence of P0 mRNAs in donor cells, indicated that Schwann cells were generated by expansion and differentiation of transplanted PSA-NCAM+ neural precursors and were not derived from contaminating Schwann cells. Thus, transplantation into demyelinated CNS tissue reveals an unexpected differentiation potential of a neural precursor, resulting in remyelination of CNS axons by PNS and CNS myelin-forming cells.