Dermal sheath (DS) shows potent hair inducing capability and high plasticity without leading to immuno rejection. A recent study showed a subset of DS cells, identified as hair follicle (HF) dermal stem cells, can be mobilized to regenerate DS, maintain/supply the cell number of dermal papilla (DP) and modulate hair type. However, it is unclear how Wnt/β-catenin signaling regulates DS cells behaviors. Here we report that activation of β-catenin in DS, to some extent, endows it with hair inducing ability, reprogramming HF epidermal cells to generate new outgrowth. The new formed dermal condensates (DC)/DP lying adjacent the outgrowth derives from DS and/or its progeny, and homeostasis of pre-existing HFs is disturbed. Additionally, progressive skin fibrosis is prominent in hypodermis, where the excessive activated fibroblasts at least partially originate from DS and/or its progeny. Gene expression analysis of purified DS cells revealed that 44% DC signature genes are regulated, most of which are up-regulated. We found elevated expression of several growth factors, including Noggin, Fgf7 and Fgf10, which were previously implicated in HF induction. In summary, we confirm the high plasticity of DS cells by in vivo assays and report a mechanism by which Wnt/β-catenin signaling controls DS cells behaviors. We prospectively isolated control and cΔex3 DS cells (YFP+ve CD34-ve ALP-ve ITGα8-ve cells) from P15 dorsal skins by FACS.