That tool is for assuring that the flash suppressor body is in line with the bore (you don't want to strike it with a bullet).

Eyeball the front sight on center once you've tightened down the castle nut and set screw (new set screw if possible). Tighten the sight screw and try it out. You may want to shoot the rifle and adjust the front sight so that your rear sight lines up with "0" on the back. Depending on barrel indexing, forming/machining of the flash suppressor, you probably won't have the front sight in the exact center.


EditI think your title should read flash hider alignment)
I have seen where people have used a pencil to line the suppressor up. Someone will chime in on that.

 

Sloth, You may be thinking about two different procedures needed with a new flash suppressor. As patchhound said you need to align the device with the bore to prevent the bullet striking it. Once that is done you may need to adjust the front sight as well. To do that center the rear sight and front sight and on a windless day (when conditions won't affect windage), fire a couple of rounds and adjust the front sight right or left as needed to correct point of impact. (Move the front sight in the opposite direction of desired correction-if it is desired to move point of impact left, move the front sight to the right) Note that only very slight movement of the front sight is necessary. Once the rifle shoots to point of aim, securely tighten the front sight. You now have a no-wind zero for windage and can make further corrections for windage, as needed, using the rear sight windage adjustment knob.
"T"