Starting off, run to the right and slash your way through three basic enemies. Then strike the two lanterns for your first set of spirit points, followed by another basic enemy. Right around the time you reach this fourth enemy, a dog will come running from behind you. Turn around quickly and slash it, or jump up as it runs beneath you.
Up ahead, a slow moving enemy will approach you. Strike him to remove him before he throws a knife at you. As you approach the next platform, a dog will attack. Jump up to the small platform, and wall jump off the sign to the left to reach the higher platform above, where you will find two enemies guarding a lantern that contains the first secondary weapon, the Throwing Star.
Continue right and remove the next enemy before wall jumping off the wall and the sign on the left to reach the platform above. On the other side, you will see three signs above the side walk. It's possible to jump up and wall jump your way to the top to cross over the side walk unharmed, but it's more trouble than it's worth. Just watch out for the dog which comes running from the left.
You'll see a ledge with a man walking back and forth, but it's too high to jump up to. (You can, however, jump up and hit the enemy, and wind up on top of the platform as a result of the collision.) If you continue right, watch out for another dog, and wall jump up to the top of the sign. From there, jump and strike at the lantern to the right. You will obtain the Jump and Slash technique, which you can use to cut down the enemy on the ledge, and then jump up to collect the Flame technique above him. (Alternatively, you may consider trying to hold on to the Jump and Slash technique, since it is surprisingly effective against the boss of this stage.)
If you climb back up to the top of the ledge on the right, strike the high lantern as you fall down to obtain the Fire Wheel. Once you collect it, immediately run to the right. Before it runs out, you should be able to mow down several enemies, wall jump between the wall and two signs, and then leap back to the left to strike the highest lantern which contains an hourglass. Collect it and time will freeze. Ultimately, you must return to high platform on the right to proceed.
As you fall down the other side of the high platform, be prepared to strike the higher lantern on the way down. It will contain a Windmill Star. From here it's a straight shot to the boss. You may have to squat down to strike a knife thrower who meets you at the end of a low platform, and watch out for one more dog which runs toward you from the left. Enter the bar at the end of the stage to challenge the boss.
Upon entering the bar, you will be greeted by Barbarian, who slowly approaches you from the right. He walks a few steps before swinging his giant blade a few times, then he resumes his approach. You can get surprisingly close to him without taking damage. He always swings high enough that you can duck underneath his swings to avoid taking damage. Your sword actually has better reach than his. Get in as close as you can without being close enough to get struck, and swing your sword rapidly to get in as many hits as possible before you have to back away and prepare for the next batch of swings. If you managed to reach Barbarian with the Jump and Slash technique, he can be killed fairly quickly by jumping at point blank and instantly starting the slash.
Defeat Barbarian and you will be treated to the first cut scene. Ryu feels as though he's being followed. He notices a woman standing behind him who he dismisses, but before she goes, she appears to shoot Ryu.