Jiminy Cricket explains that he is going to tell a story of a wish coming true. His story begins in the workshop of a woodworker named Geppetto (whom Skunk and friends are hanging out with). Jiminy watches as Geppetto finishes work on a wooden marionette whom he names Pinocchio. Before falling asleep, Geppetto makes a wish on a star that Pinocchio be a real boy. During the night, a Blue Fairy visits the workshop and brings Pinocchio to life, although he still remains a puppet. She informs him that if he proves himself brave, truthful, and unselfish, he will become a real boy, and assigns Jiminy to be his conscience, with Skunk and friends to help guide him.
Geppetto discovers that his wish has come true, and is filled with joy. However, on his way to school, Pinocchio is led astray by Honest John the Fox and his companion, Gideon the Cat, who are 2 of Fox's old enemies and who convince him to join Stromboli's puppet show, despite Jiminy's objections. Pinocchio becomes Stromboli's star attraction as a marionette who can sing and dance without strings. However, when Pinocchio wants to go home for the night, Stromboli locks him in a birdcage. Jiminy and the animals arrive to see Pinocchio, the animal use their shrinking potion to shrink themselves and get inside, aside from Bird who is already small sized, but when they see Pinocchio locked up they are unable to free him. The Blue Fairy appears, and asks Pinocchio why he was not at school. Jiminy urges Pinocchio to tell the truth, but instead he starts telling lies, which causes his nose to grow longer and longer. Pinocchio vows to be good from now on, and the Blue Fairy returns his nose to its original form and sets him free, while warning him that this will be the last time she can help him.
Meanwhile, across town, Honest John and Gideon meet a coachman who promises to pay them money if they can find foolish little boys for him to take to Pleasure Island. Encountering Pinocchio on his way home, they convince him that he needs to take a vacation there. On the way to Pleasure Island, he befriends Lampwick, a delinquent boy. Without rules or authority to enforce their activity, Pinocchio and the other boys soon engage in smoking tobacco, gambling, vandalism, and getting drunk, much to Jiminy's dismay. Later, while trying to get home, Jiminy discovers that the island hides a horrible curse: the boys brought to Pleasure Island are transformed into donkeys and sold into slave labor. Jiminy and the animals run back to warn Pinocchio, only to discover that Lampwick has transformed into a donkey; Pinocchio manages to escape, only partially transformed.
Upon returning home, Pinocchio, Jiminy and the animals find the workshop vacant. They soon get a letter from the blue fairy, stating that Geppetto had ventured out in search of Pinocchio, but was swallowed by a giant whale named Monstro, and is now living in his belly. Determined to rescue his father, Pinocchio jumps into the sea accompanied by Jiminy and the animals. Pinocchio and the animals are soon swallowed by Monstro as well, where he is reunited with Geppetto. Pinocchio devises a scheme to make Monstro sneeze, giving them a chance to escape. The scheme works, but the enraged whale chases them, and smashes their raft. Pinocchio pulls Geppetto to safety in a cave before Monstro crashes into it. They are all washed up on a beach on the other side. Geppetto and Jiminy survive, but Pinocchio lies motionless face down in a tide pool nearby. Back home, the group mourns him. The Blue Fairy, however, decides that Pinocchio has proven himself brave, truthful, and unselfish, that he is reborn as a real human boy (his donkey ears and tail also gone), and everyone celebrates. Jiminy steps outside to thank the Fairy, and is rewarded with a solid gold badge that certifies him as an official conscience.