The game takes place following the conclusion of Banjo-Tooie, in which Gruntilda's body is destroyed by Banjo and Kazooie. Eight years have passed since Gruntilda's defeat. While Banjo and Kazooie are eating pizza, playing video games and listening to the radio, they discover Gruntilda's detached head returning to Spiral Mountain. They are about to fight when they are stopped by Lord of Games (L.O.G.). He attempts to settle the conflict between the two by devising a series of worlds and challenges. He uses his powers to give Gruntilda an artificial body and to restore the duo's physical fitness, but not their moves from previous games.

L.O.G. transports the characters to Showdown Town, his headquarters, and starts the contest. The winner would be set to own Spiral Mountain; the loser must endure eternal hardship at L.O.G.'s video game factory. While Banjo and Kazooie seek to win by completing the challenges, Gruntilda uses her powers and abilities to try to stop the duo. An army of mechanical Gruntbots also assist the witch in her goal. The game ends with Gruntilda and Banjo attempting to face a final duel when L.O.G. once again comes in to stop them. After L.O.G. sends Gruntilda off to toil away at his video game factory, he rewards Banjo and Kazooie by restoring their moves and giving them the deeds to Spiral Mountain. Gruntilda vows that bringing her to the factory was a mistake and that she will make her own video game.