Solution for me
I had this problem. For some reason, the CD had become permanently attached to an .iso file that contains the Tools installation files. So each time Parallels was started, I would be re-invited to install (or remove) Parallels Tools.
The solution was simple. Mouse over to the CD icon in the lower right corner of the Parallels application window. Select "Default CD/DVD-ROM" instead of the VM Tools .iso file. That restored normal operation for me.
Last edited: Feb 28, 2007