Alveolar type II cells in vivo and in primary culture synthesize and secrete uteroglobin, an antiinflammatory, cytokine-like protein (Guy, Dhanireddy, Mukherjee, BBRC 1992). However, in long term culture conditions these cells fail to produce UG. Establishment of a long term type II cell culture system, maintaining differentiated function, may facilitate in depth studies on the regulation of UG production by these cells. The lungs from 29 days gestation rabbit fetuses were instilled with SV40 tsA255 virus intratracheally. The intact lungs were incubated for three hours at the permissive temperature of 33°C, cut into small pieces and were incubated at 33°C for 7-8 weeks when transformed clones were visible. By serial dilution, alveolar type II cell clones were identified and characterized by electron microscopy, growth and differentiation on matrigel®, choline incorporation into saturated phophatydylcholine (DSPC) and secretion of DSPC by isoproterenol. UG gene transcription in the transformed cells was determined by reverse transcription-PCR, and the protein production by immunofluorescence and Western blotting. The transformed cells grow rapidly at 33°C; at the non-permissive 39°C, the cells grow slowly but reveal lamellar bodies. Dexamethasone and TRH stimulated choline incorporation into DSPC at both temperatures and isoproterenol stimulated secretion of DSPC from the cells; both the synthesis and secretion of DSPC are dose and time dependent. RT-PCR analysis showed that UG-mRNA was expressed in the transformed cells and it was enhanced 2.5 times when the cells were treated with dexamethasone. The results of immunofluorescence and Western blotting showed UG-protein production by the transformed cells. These results demonstrate, for the first time, that transformation of alveolar type II cells by a novel method of in situ transfection with temperature sensitive SV40 virus allows these cells to retain near-normal differentiated characteristics in vitro.