Many membrane-bound protein precursors, including cytokines and growth factors, are proteolytically shed to yield soluble intercellular regulatory ligands. The responsible protease, tumor necrosis factor-α converting enzyme (TACE/ADAM-17), is a transmembrane metalloprotease-disintegrin that cleaves multiple cell surface proteins, although it was initially identified for the enzymatic release of tumor necrosis factor-α (TNF-α). Mammalian lung growth and development are tightly controlled by cytokines and peptide growth factors. However, the biological function of the cell shedding mechanism during lung organogenesis is not understood. We therefore evaluated the role of TACE as a "sheddase" during lung morphogenesis by analyzing the developmental phenotypes of lungs in mice with an inactive TACE gene in both in vivo and ex vivo organ explant culture. Neonatal TACE-deficient mice had visible respiratory distress and their lungs failed to form normal saccular structures. These newborn mutant lungs had fewer peripheral epithelial sacs with deficient septation and thick-walled mesenchyme, resulting in reduced surface for gas exchange. At the canalicular stage of E16.5, the lungs of TACE mutant mice were impaired in branching morphogenesis, inhibited in epithelial cell proliferation and differentiation, and delayed in vasculogenesis. Embryonic TACE knockout mouse lungs (E12) branched poorly compared to wild-type lungs, when placed into serumless organ culture. Gene expression of both surfactant protein-C and aquaporin-5 were inhibited in cultured TACE-mutant embryonic lungs, indicating defects in both branching and peripheral epithelial cytodifferentiation in the absence of TACE protein. Furthermore, both the hypoplastic phenotype and the delayed cytodifferentiation in TACE-deficient lungs were rescued by exogenous addition of soluble stimulatory factors including either TNF-α or epidermal growth factor in embryonic lung culture. Thus, the impaired lung branching and maturation without TACE suggest a broad role for TACE in the processing of multiple membrane-anchored proteins, one or more of which is essential for normal lung morphogenesis. Taken together, our data indicate that the TACE-mediated proteolytic mechanism which enzymatically releases membrane-tethered proteins plays an indispensable role in lung morphogenesis, and its inactivation leads to abnormal lung development. © 2001 Academic Press.