Thrombomodulin (TM) is a transmembrane glycoprotein that contains five functional domains. Soluble TM (sTM), comprising extracellular domains TMD1 (lectin‐like), TMD2 (epidermal growth factor [EGF]‐like repeat containing), and TMD3 (serine‐threonine rich), can be shed from cells by the intramembrane protease rhomboid‐like‐2 (RHBDL2). TM is expressed by osteoblasts, yet its role there has not been determined. Herein we aimed to investigate the properties of TM and its domains in osteoblast function and bone repair following injury in diabetes. In response to a scratch injury of cultured osteoblast‐like MG63 cells, expression of TM and RHBDL2 was enhanced, with increased release of sTM. Conditioned media from the injured cells promoted osteoblast migration, an effect that was lacking with conditioned media from MG63 cells in which TM was silenced by shRNA. Exogenous recombinant TMD1 had no effect on osteoblast activities or on bone repair in vivo. However, TM domains 2 and 3 (TMD2/3), induced MG63 cell migration, proliferation and mineralization in vitro, and when locally administered in mice, improved in vivo healing of injured calvarium. This beneficial effect of TMD2/3, mediated via fibroblast growth factor receptor (FGFR)/ERK signaling pathways, was also observed in vitro under high glucose conditions where endogenous TM expression was reduced, and in vivo in diabetic mice following tibia fracture or calvarium injury, where the osteoblastic response and healing were otherwise dampened. Taken together, osteoblast TM participates in bone healing, and recombinant TMD2/3 holds promise as a novel therapy for diabetic bone defect healing.