The film will take place post-Avengers, where in the aftermath of the invasion Tony Stark realizes he's not the big shot superhero anymore. Captain America and Thor, due to having actual powers, are stealing the limelight away from Tony, who begins doubting his self-worth. In order to compete in the same league as his fellow heroes, Tony begins designing the Mark VIII, a revolutionary new armor composed of liquid metal nanobots that will bond with Tony through his arc reactor and be administered throughout his body. Basically, he can summon a liquid metal armor at will, then add more weapons and attachments onto it as he sees fit when it comes time for upgrades. Having made himself a cyborg, Tony can now instantly interface with computer systems as well.
As Tony is experimenting with his new armor, his rival Justin Hammer is released from prison and attempts to compete once again with Stark Enterprises. He gets help when his company agrees to a merger with a Middle Eastern company run by Gene Khan, who goes by the alias of the Mandarin, a powerful warlord who is the leader of the Ten Rings organization that captured Tony in the first film. Mandarin wants vengeance against Stark for humiliating his men in the first film, and hoped that providing the resources for Ivan Vanko to get to Monaco would have allowed Whiplash to destroy Stark. Since that has fallen through, and Iron Man has successfully become an Avenger in the wake of the invasion, Mandarin wants to be directly involved in taking Iron Man down.
Mandarin sends one of his agents, the Spymaster, to infiltrate Stark Enterprises to steal the designs for Stark's various armors and the latest arc reactor (the one powered by the cosmic cube element). While there, Spymaster finds that Tony has been reverse engineering leftover tech from the alien invasion to advance his armor (this is how he created the nanobots). Among the tech Tony had salvaged was ten alien rings, each one highly advanced and carrying a separate power. Tony was unable to unlock the power of the rings, and so kept them in storage until he could decide what to do with them. Spymaster steals these, as well as the arc reactor and armor designs. While Mandarin takes the rings for himself and tries to make them work, he has Justin Hammer use his company's resources to manufacture suits and arc reactors for Mandarin's men.
Spymaster is the first to receive a suit, a unique one made of an alien material that allows the wearer to become invisible and intangible. Spymaster rechristens himself the Ghost. Another of Mandarin's thugs gets a suit that channels the cosmic cube energy from the arc reactor into a concentrated beam of heat that melts anything in its path. This thug becomes the Melter. With these weapons, Mandarin tasks Ghost and Melter to take Stark out of the equation. Melter publicly challenges Iron Man to a battle while Ghost infiltrates the Stark computer system to shut down the company's mainframe. Tony defeats the Melter, who is apprehended by SHIELD, but the property damage caused by the fight paints Stark in a bad light, and the people begin to lose respect for him. Nick Fury tasks Coulson and Black Widow to keep an eye on Stark and investigate who hired the Melter. The Ghost shuts down Stark's power grid, leaving Tony without access to his lab and also rendering JARVIS offline.
Coupled together, these events cause Tony to lose the admiration of the public. Rhodey takes Tony's place in the Avengers initiative as War Machine, while stock in Hammer Industries rises as Hammer begins mass producing arc reactor tech. The blackout at Stark gives Hammer enough leverage to buy out Tony's company. SHIELD freezes Tony's bank accounts to prevent Tony from doing something stupid while they send Rhodes, Coulson, and Widow to investigate Hammer's role in hiring the Melter and causing the Stark blackout. Tony begins drinking heavily following this fall from grace, and due to his alcoholism Pepper leaves him.
At this time, Hammer's scientists develop a new arc reactor that can serve as a power source for the Mandarin's rings. The reactors are used to power high tech weapons (in essence resembling more advanced versions of the ones used in Captain America). Now possessing the full power of the ten rings and commanding an army of soldiers with arc reactor technology, Mandarin deems Hammer expendable and kills him, before marching his army out to take over the country. The soldiers quickly overwhelm War Machine, Black Widow, Coulson, and a large squad of SHIELD agents sent in by Fury as backup. Tony, realizing that he needs to swallow his pride for the sake of making the world a better place, gets over his drinking problem with the help of Pepper and suits up as Iron Man, breaking into his own company and entering a final battle with the Ghost before obtaining new armor upgrades to create his most advanced armor yet: The Silver Centurion (same color scheme as the briefcase armor just more advanced).
Tony flies off and, with War Machine and SHIELD backing him up, takes out most of the Ten Rings soldiers and their arc tech. Tony then enters a final battle with the Mandarin, who proves to be more than a match using the rings. Tony eventually manages to overload the arc reactor powering the rings, creating a huge energy discharge that destroys the rings and Mandarin. With the battle won, Tony buys back his company, makes amends with Rhodey, Pepper, and SHIELD, and realizes his worth as a superhero, both as a solo one and as a member of the Marvel Universe.
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