Regeneration in the peripheral nervous system is impaired after prolonged periods of denervation. Currently, no interventions exist to alter the outcome after prolonged denervation. To examine the role of transplanted neural stem cells (NSC), we prepared chronically denervated distal tibial nerve segments. After 6 months of chronic denervation, we transplanted vehicle, C17.2 mouse NSCs, or C17.2 mouse NSCs engineered to overexpress GDNF to the distal tibial nerve and performed a peroneal nerve cross-suture. In animals transplanted with the NSCs, there was better regeneration of the peroneal axons into the tibial nerve as measured by counting the number of axons and by the emergence of compound motor action potentials in the tibial innervated foot muscles. Improved regeneration correlated with a reduction of chondroitin sulphate proteoglycan (CSPG) immunoreactivity in the extracellular matrix (ECM). In vitro, supernatant from C17.2 NSCs contained large quantities of secreted matrix metalloprotease-2 (MMP-2), degraded the CSPGs on chronically denervated tibial nerve sections, and reversed the CSPG-induced inhibition of neuritic outgrowth of DRG neurons. This reversal was inhibited by selective MMP-2 inhibitors. This is the first successful demonstration of regeneration through a chronically denervated nerve. These findings suggest that improved regeneration in the PNS can be accomplished by combining neurotrophic factor support and removal of axon growth inhibitory components in the extracellular matrix.