The Drosophila wingless gene (wg) encodes a protein of the Wnt family and is a critical regulator in many developmental processes. Biochemical studies have indicated that heparan sulphate proteoglycans, consisting of a protein core to which heparan sulphate glycosaminoglycans are attached, are important for Wg function. Here we show that, consistent with these findings, the Drosophila gene sulfateless (sfl), which encodes a homologue of vertebrate heparan sulphate N-deacetylase/N-sulphotransferase (an enzyme needed for the modification of heparan sulphate) is essential for Wg signalling. We have identified the product of division abnormally delayed (dally), a glycosyl-phosphatidyl inositol (GPI)-linked glypican, as a heparan sulphate proteoglycan molecule involved in Wg signalling. Our results indicate that Dally may act as a co-receptor for Wg, and that Dally, together with Drosophila Frizzled 2, modulates both short- and long-range activities of Wg.