A drop of pure, magical sunlight falls to earth and sprouts a flower with healing properties. An aging Robotnik hides the flower and uses it to stay young for centuries until royal soldiers from a nearby kingdom find and uproot it to save Queen Alicia. Shortly thereafter, Queen Alicia gives birth to a baby Mobian girl with bright red hair. Robotnik discovers the hair has the same powers as the flower but turns normal red and becomes useless when cut. He abducts the infant, names her Sally, and raises her in a hidden tower, using her hair to stay immortal.
Each year, on Sally's birthday, King Max and Queen Alicia release thousands of sky lanterns in hopes she will see them. Sally becomes obsessed with the distant lights, and, on the eve of her 18th birthday, asks Robotnik for permission to see them closer. Robotnik claims Sally is too weak and young to survive. Later, a blue hedgehog thief named Blue Blur steals Sally's intended crown from the palace, ditches his cronies the echidna siblings, and takes refuge in the tower. Sally knocks him out and hides him in a closet. She considers showing him to Robotnik as proof she can take care of herself; however, Robotnik refuses to let her broach the subject, so Sally sends Robotnik on a three-day journey to get new paints.
Sally hides the crown, not realizing it is her own and tells Blue Blur he can only get it back by taking her to see the lights. Along the way, they stop at the Snuggly Duckling, where menacing thugs try to capture the wanted Blue Blur. Sally soon charms them into revealing their softer sides; when royal guards arrive, the thugs help her and Blue Blur to escape. Meanwhile, Robotnik becomes suspicious, returns to the empty tower, and finds the crown. He sets out to find Sally and allies himself with the echidna siblings.
In escaping from the guards, Blue Blur and Sally become trapped in a fast-flooding cave. Thinking they will die, Blue Blur resignedly reveals his true name (Sonic the Hedgehog), and Sally reveals her magic powers. Her glowing red hair shows a previously hidden exit, and they escape and take refuge in the woods. That night, Robotnik catches up to Sally while Sonic is away, gives her the crown, and tells her to use it to test Sonic's loyalty.
The next morning, a palace guard named Shadow tracks down Sonic and attempts to arrest him. Sally demands a truce in honor of her birthday, and Shadow reluctantly agrees, joining them as they go to the kingdom and take part in a festival in honor of the "lost princess". They spend the day celebrating with the townsfolk, then sail onto the lake to watch the solemn release of the lanterns firsthand. Having fulfilled her dream, Sally gives Sonic back the crown. The two confess their love and are about to kiss when Sonic sees the Echidna siblings. He walks off to apologize and offers them the crown, but they tie him to a ship so the royal guards will arrest him, and Sally will think he abandoned her. They then try to capture Sally, but Robotnik stages a "rescue" and takes Sally home.
Sonic escapes with the help of Shadow and the thugs. Meanwhile, Sally realizes she has subconsciously incorporated the kingdom's standard into her artwork all her life; finally understanding that she is the "lost princess", she confronts Robotnik. Sonic arrives at the tower, climbing up Sally's hair, but then discovers her bound and gagged. Robotnik fatally stabs him and tries to drag Sally to a new hiding place. Sally offers to stop struggling and go willingly if Robotnik will allow her to heal Sonic. Realizing this means Rapunzel will grow old and die in Robotnik's clutches, Sonic cuts off Sally's hair before she can heal him. Robotnik withers to his true age and disappears.
Sally mourns Sonic, and one of her tears revives him, still having some of the sun's power in it. Sonic reunites Sally with her birth parents, is given a full pardon, and he and Sally marry as the kingdom celebrates.
