We previously demonstrated that synovium-derived MSCs had greater in vitro chondrogenic ability than other mesenchymal tissues, suggesting a superior cell source for cartilage regeneration. Here, we transplanted undifferentiated synovium-derived MSCs into a full-thickness articular cartilage defect of adult rabbits and defined the cellular events to elucidate the mechanisms that govern multilineage differentiation of MSCs. Full-thickness osteochondral defects were created in the knee; the defects were filled with 1,1′-dioctadecyl-3,3,3′,3′-tetramethylindocarbocyanine perchlorate-labeled MSCs and covered with periosteum. After 4 weeks, although the cell density decreased, transplanted MSCs produced a great amount of cartilage matrix extensively. The periosteum became thinner, and chondroprogenitors in the periosteum produced a small amount of cartilage matrix. In the deeper zone, transplanted MSCs progressed to the hypertrophic chondrocyte-like cells. In the deep zone, some transplanted cells differentiated into bone cells and were replaced with host cells thereafter. In the next phase, the border between bone and cartilage moved upwards. In addition, integrations between native cartilage and regenerated tissue were improved. Chondrocyte-like cells derived from the transplanted MSCs still remained at least after 24 weeks. Histological scores of the MSC group improved continuously and were always better than those of two other control groups. Immunohistological analyses and transmission electron microscopy confirmed that the MSCs produced abundant cartilage matrix. We demonstrated that transplanted synovium-derived MSCs were altered over a time course according to the microenvironments. Our results will advance MSC-based therapeutic strategies for cartilage injury and provide the clues for the mechanisms that govern multilineage differentiation of MSCs.