Background: Sterols are vital structural and regulatory components in eukaryotic cells; however, their biosynthetic pathways and functional roles in microalgae remain poorly understood. Results: In the oleaginous microalga Nannochloropsis oceanica, the sterol biosynthetic pathway produces phytosterols as minor products and cholesterol as the major product. The evidence together with their deduced biosynthetic pathways suggests that N. oceanica exhibits features of both higher plants and mammals. Temporal tracking of sterol profiles and sterol-biosynthetic transcripts in response to changes in light intensity and nitrogen supply reveal that sterols play roles in cell proliferation, chloroplast differentiation, and photosynthesis. Furthermore, the dynamics of fatty acid (FA) and FA-biosynthetic transcripts upon chemical inhibitor-induced sterol depletion reveal possible co-regulation of sterol production and FA synthesis, in that the squalene epoxidase inhibitor terbinafine reduces sterol content yet significantly elevates free FA production. Thus, a feedback regulation of sterol and FA homeostasis is proposed, with the 1-deoxy-D-xylulose 5-phosphate synthase (DXS, the committed enzyme in isoprenoid and sterol biosynthesis) gene potentially subject to feedback regulation by sterols. Conclusion: These findings reveal features of sterol function and biosynthesis in microalgae and suggest new genetic engineering or chemical biology approaches for enhanced oil production in microalgae. © 2014 Lu et al.; licensee BioMed Central Ltd.