Patterning of the bipotential retinal primordia (the optic vesicles) into neural retina and retinal pigmented epithelium depends on its interaction with overlaying surface ectoderm. The surface ectoderm expresses FGFs and the optic vesicles express FGF receptors. Previous FGF-expression data and in vitro analyses support the hypothesis that FGF signaling plays a significant role in patterning the optic vesicle. To test this hypothesis in vivo we removed surface ectoderm, a rich source of FGFs. This ablation generated retinas in which neural and pigmented cell phenotypes were co-mingled. Two in vivo protocols were used to replace FGF secretion by surface ectoderm: (1) implantation of FGF-secreting fibroblasts, and (2) injection of replication-incompetent FGF retroviral expression vectors. The retinas in such embryos exhibited segregated neural and pigmented epithelial domains. The neural retina domains were always close to a source of FGF secretion. These results indicate that, in the absense of surface ectoderm, cells of the optic vesicles display both neural and pigmented retinal phenotypes, and that positional cues provided by FGF organize the bipotential optic vesicle into specific neural retina and pigmented epithelium domains. We conclude that FGF can mimic one of the earliest functions of surface ectoderm during eye development, namely the demarcation of neural retina from pigmented epithelium.