Many extremely preterm infants continue to suffer from bronchopulmonary dysplasia, which results from abnormal saccular stage lung development. Here we show that fibroblast growth factor-10 (FGF-10) is required for saccular lung development and reduced in the lung tissue of infants with bronchopulmonary dysplasia. While exposure to bacteria increases the risk of bronchopulmonary dysplasia, no molecular target has been identified connecting inflammatory stimuli and abnormal lung development. In an experimental mouse model of saccular lung development, activation of Toll-like Receptor 2 (TLR2) or Toll-Like Receptor 4 (TLR4) inhibited FGF-10 expression, leading to abnormal saccular airway morphogenesis. In addition, Toll-mediated FGF-10 inhibition disrupted the normal positioning of myofibroblasts around saccular airways, similar to the mislocalization of myofibroblasts seen in patients with bronchopulmonary dysplasia. Reduced FGF-10 expression may therefore link the innate immune system and impaired lung development in bronchopulmonary dysplasia.