Heme oxygenase (HO)-1 is an inducible stress response protein and well known to protect cells and tissues against injury. Despite its important function in cytoprotection against physiological stress, the role of HO-1 in embryonic stem cell (ESC) differentiation remains largely unknown. We showed previously that induced pluripotent stem (iPS) cells that lack HO-1 are more sensitive to oxidant stress-induced cell death and more prone to lose pluripotent markers upon LIF withdrawal. To elucidate the role of HO-1 in ESC differentiation and to rule out the controversy of potential gene flaws in iPS cells, we derived and established mouse HO-1 knockout ESC lines from HO-1 knockout blastocysts. Using wild type D3 and HO-1 knockout ESCs in the 3-dimensional embryoid body (EB) differentiation model, we showed that at an early time point during EB development, an absence of HO-1 led to enhanced ROS level, concomitant with increased expressions of master mesodermal regulator brachyury and endodermal marker GATA6. In addition, critical smooth muscle cell (SMC) transcription factor serum response factor and its coactivator myocardin were enhanced. Furthermore, HO-1 deficiency increased Smad2 in ESCs and EBs, revealing a role of HO-1 in controlling Smad2 level. Smad2 not only mediates mesendoderm differentiation of mouse ESCs but also SMC development. Collectively, loss of HO-1 resulted in higher level of mesodermal and SMC regulators, leading to accelerated and enhanced SMC marker SM α-actin expression. Our results reveal a previously unrecognized function of HO-1 in regulating SMC gene expressions during ESC-EB development. More importantly, our findings may provide a novel strategy in enhancing ESC differentiation toward SMC lineage.