The full plot runs from a cursed emperor in ancient China to a battle between two armies in 1946, with a dagger, a hidden valley and a pack of yetis in between.
In ancient China a warlord who unified the land wanted to live forever and hired the sorceress Zi Yuan to help him. When she fell in love with his general Ming, the emperor had Ming killed, and she cursed the emperor and his soldiers into a terracotta army. That prologue sets the rule the rest of the film plays by: the emperor can be revived, and only a special dagger can stop him.
In 1946 Alex O'Connell finds the buried emperor with the help of his professor, who is working for General Yang and Colonel Choi. The emperor is revived and kills the professor before escaping. Lin tells the family that only the dagger can stop him, and the O'Connells, with Evelyn's brother Jonathan, race to Shanghai to protect it.
The trail then leads to the Himalayas and the hidden Shangri-La, where yetis help the heroes. The emperor wounds Rick badly, and the waters of Shangri-La heal him. The emperor also drinks from the waters, regains a human form with greater power, and takes the dagger. He kidnaps Lin and heads back to his tomb to wake his army and march on the Great Wall.
Zi Yuan gives up her own immortality and Lin's to raise an army of the emperor's old enemies, led by Ming. The two armies clash and Zi Yuan steals the dagger back, but she is mortally wounded and passes it to Rick and Alex. Evelyn and Lin deal with Yang and Choi. Rick and Alex stab the emperor with the dagger, which destroys him and his terracotta army, and Ming's forces pass on to the afterlife.