Cartilage tissue engineering using chondrogenic growth factors is an attractive strategy to promote cartilage repair. Bone morphogenetic proteins have been widely studied for their application in cartilage repair. However, functional heterogeneity of bone morphogenetic proteins and unpredictable effects such as cyst formation may limit their therapeutic use. Thus, the use of alternative growth factors with greater osteochondral specificity may be advantageous for cartilage regeneration. Nel-like molecule-1 (Nell-1; Nel is a protein strongly expressed in neural tissue encoding epidermal growth factor-like domain) is a novel growth factor believed to specifically target cells committed to the osteochondral lineage. Mutation of the Nell-1 gene has been shown to disrupt normal cartilage growth and development in rodents. This study investigates the chondrogenic potential of recombinant human Nell-1 protein in a three-dimensional alginate hydrogel microenvironment containing rabbit chondrocytes. To provide controlled delivery and maximize biological efficiency, Nell-1 was incorporated in chitosan microparticles. Over 42 days of culture, chondrocyte proliferation and cluster formation was significantly enhanced by Nell-1 in a dose-dependent manner. Further, the clusters formed in the presence of Nell-1 contained more type II collagen and glycosaminoglycans than clusters formed within Nell-free control gels. These findings demonstrate the ability of Nell-1 to promote chondrocyte proliferation and deposition of cartilage-specific extracellular matrix materials.