Recruitment in many marine invertebrates is inherently variable; the behaviour of larvae at settlement may be an important contributor to this variation. Yet there are few in situ observations of settlement behaviour of marine invertebrate larvae. Direct observations in the field showed that 63 % (n = 89) in larvae of the colonial ascidian Podoclavella moluccensis Sluiter settled on their first contact with the substratum, while a small percentage made 10 or more contacts prior to settlement. Two species of subtidal sponge, Mycale sp. and Crella incrustans, were consistently avoided by these settling larvae. Mycale sp. was often contacted repeatedly, but invariably rejected. In contrast, even contacts with C. incrustans were rare, relative to the space that this sponge occupied. We investigated the role of sponge allelochemicals, at natural concentrations, in inhibiting settlement of these larvae. Settlement of larvae onto substrata impregnated with an ether-soluble extract of Mycale sp. was significantly inhibited, relative to controls. Several fractions of this extract were equally inhibitory to settling larvae. Butanol and ether extracts of C. incrustans were also inhibitory and the repellent activity was in the more polar lipophilic fractions. The least polar fraction was attractive to larvae. Extracts appeared to be non-toxic to the larvae and we failed to detect any antibacterial activity. We conclude that settlement of these ascidian larvae may be inhibited by natural products released from or at the surface of these sponges.