The Three-Headed Monkey is a creature of legend that appears rarely in the series and is mentioned far more often. Most commonly, Guybrush will use the line "Look! It's a three-headed monkey!" to try to distract people, with varying success.
Otis uses the line to distract Guybrush when he's escaping from his jail cell; Guybrush remarks that he'll remember that line. He uses it on the Cannibals when they confront him trespassing in their village; the first time the Cannibals will look but catch Guybrush just before he escapes, and the second time they won't believe him, though the monkey will appear behind them. Later, when Guybrush is waiting for them to prepare the Voodoo Anti-Root, the monkey will show up again. One head will bite a banana, the second will chew, and the third will swallow. This is the only time Guybrush can talk to it.
The monkey appears in a flashback of Herman Toothrot's, but plays no role in the plot. If Guybrush waits around long enough in Monkey Town, the three-headed monkey can be spotted in one of the huts.