The Terrance and Phillip episode in question, entitled "The Mystery at the Lazy 'J' Ranch", includes an image of the Muslim prophet Muhammad, which is censored by their network, the CBC. After the broadcast, Terrance and Phillip go to the head of the CBC to complain about the censorship, saying that Family Guy will be showing Muhammad uncensored later. The head of CBC replies that that does not matter, as somebody is probably on his way right now to stop it (He also mentions how Terrance and Philip have become too preachy and forgotten how to be funny, a reference to South Park itself). This is where the action rejoins the actual story line.
Having left Kyle injured and without a vehicle at the roadside in Part 1, Cartman arrives at Fox headquarters. There he meets a kid who resembles Bart Simpson and, like Cartman, wants to destroy Family Guy. Cartman convinces him to let him do it alone, however, after comparing his own feat of making Scott Tenorman eat his own parents to the kid's theft of a statue's head.
Cartman meets the executives and pretends to be a Danish kid named Little Danny Pocket, saying that his father was killed by terrorists during the Jyllands-Posten Muhammad cartoons controversy and pleading that they pull the Family Guy episode. His story touches the executives, who encourage him to try to persuade the writers to yield.
Kyle is given a lift to the Fox Studio in a truck, his aim being to save the episode and foil Cartman's plans, but the Bart-like kid traps him in a maintenance closet. Meanwhile, President Bush tells reporters that Family Guy's writers cannot be persuaded to change their mind about the episode, and that it is protected under the First Amendment. The reporters act as if this is something completely new to them, asking questions like "How are you going to deal with this 'First Amendment?'" and "This 'First Amendment' sounds like a lot of bureaucratic jibbery-joo."
Cartman is finally introduced to the Family Guy writing staff, who turn out to be a group of manatees. The aquatic mammals, who live in a large tank, pick up "idea balls" and pop them into a hole. Each ball has the name of a noun, a verb or a pop-culture reference written on it. When the balls travel down a shaft, a group of five forms a Family Guy joke: for example, "Laundry" + "Date" + "Winning" + "Mexico" + "Gary Coleman" becomes a clip of Lois asking Peter to do the laundry, after which Peter recalls winning a date in Mexico with Gary Coleman.
The manatees refuse to work if any idea ball is removed from their tank: "either everything's okay [to lampoon], or nothing is." This is similar to the South Park creators' unwillingness to work if certain topics, like Islam or Scientology, are made off-limits. The manatees are also, apparently, the only mammals unmoved by terrorist threats.
Cartman sneaks in and removes a ball from their tank, causing them to stop working, and then convinces the Fox president that the manatees are spoiled, arrogant and traipsing over the executives. The president decides to pull the new Family Guy episode only 25 minutes before its scheduled airtime.
Meanwhile, Kyle has convinced the Bart-like kid to set him free and wants to rush to stop the Fox president from pulling the episode. He and Cartman meet first, however, and engage in a long sissy-fight which takes them through several studios. With the Bart-like kid's help, Kyle prevails. He and Cartman both end up in the Fox president's office just as he is making the phone call to cancel Family Guy. The boys present to him their two conflicting views: Kyle argues in favor of free speech; Cartman threatens him with a gun. The network president ultimately decides, in spite of threats of violence from both Cartman and Islamic terrorists, that Family Guy should be aired, and without censorship.
Family Guy begins, and Muhammad appears in a cutaway joke, handing Peter a "salmon football helmet". (The scene with Muhammad is censored from South Park, however, by Comedy Central: these few seconds are replaced by a black screen and the words, "In this shot, Muhammad hands a football helmet to Family Guy; Comedy Central has refused to broadcast an image of Muhammad on their network.")
President Bush sees the Family Guy scene and wonders what all the fuss is about - "Hey, that wasn't bad at all. They just showed Muhammad standin' there, lookin' normal". The terrorist leader al-Zawahiri, however, declares by video, "We warned you not to show Muhammad, but Family Guy did it anyways; so, now, here is our retaliation on America!"
They release "an Al Qaeda Films Production", a crudely-animated video showing cardboard cutouts of George W. Bush, Carson Kressley, Tom Cruise, Katie Holmes and Jesus defecating on each other and the American flag. Al-Zawahiri then declares "Oh, yeah! Take that! We burned you! That was way funnier than Family Guy!"
The creators of Family Guy have apparently taken the episode's treatment of their show in good humour, even making references to the episode in the commentaries on the show's season-four DVD box set, stating that, when South Park depicted them moving random jokes around, "That's pretty much how it is." They point out jokes and state "this was originally for [another episode] but it ran long, so we moved it to this one" on several occasions. They have even taken to referring to cut away jokes as "manatee jokes". On the Fox website, the teaser details for the Family Guy episode "Peter's Two Dads" states, "This week, the manatees picked out topic balls reading 'Peter's real father lives in Ireland and Peter goes there to find him.'"