Kyrgios was fined $13,500 by the ATP after he told Stan Wawrinka fellow Australian Thanasi Kokkinakis 'banged your girlfriend' in their second-round clash on Thursday.
He was also slapped with a $3,300 fine for a comment he made to a ball person during the same match.
The 20-year-old Kyrgios, who was booed by the crowd before and after his straight-sets loss to John Isner, apologised for his bizarre outburst on Facebook.
But the usually mild-mannered Nadal issued an ultimatum to the world-number 41 on Friday.
"I don't understand very well why he said that," Nadal said of Kyrgios' on-court comments.
"It is completely unnecessary. It is out of what a tennis match should be."
"The world of tennis, we should represent and we should be an example for a new generation of kids."
The 14-time major champion says Kyrgios has the talent to be a future world number one but says he risks being ostracised by his fellow professionals if he doesn’t change he brash ways.
"When you are on tour and in the locker room every single week of the year with (fellow players), life is much easier and happier if you have a good relationship with the rest of your colleagues and the rest of the players and what happened yesterday doesn’t help do that," he said.
"It's necessary (for Kyrgios) to change if you want to be on a tour where people respect you – not just as a very good tennis player, he's a fantastic player that’s for sure and possibly he can be number one in the future.
"But as I always said, you can be as good a tennis player as you like but the most important thing in his life is the human person and the respect.
"You have to go on court and you have to do the right things and yesterday he was not doing the right things, but he has time to improve that attitude and I’m sure he's smart and he will."
The Spaniard added Kyrgios' young age in no way excuses his erratic behavior.
"Everybody can have mistakes but age is not an excuse," Nadal said.
"We are here and most of the players around the tour, started on the tour very early. I started on the tour at 16, Novak (Djokovic) probably at 17, Andy (Murray) at 18, so age is not an excuse at all it's just about respect.
"He was wrong yesterday and I hope he's able to recognize his mistake and I hope he's able to change."