I actually started work on this, as i'm currently programming a usb development kit.
Here's how it *should* work. Connect your xbox usb to you're computer. Now make your computer send the same venderID/productID as the real HD-DVD drive does. When you connect a usb device to a host (computer), the usb device sends some information to the host to tell the host what type of device it actually is. This is called the usb device type. Since you can connect digital cameras, printers, scanners, mice, keyboards, mp3 players, etc to a computer, the device must tell the computer what category of device it is. Each device type also has with it a venderID and product ID, which is unique to the particular manufacturer/brand it is. The host then can lookup that device's particular driver and load it so that i can begin communicating with it. So an apple ipod 2gig nano, when plugged into a computer, tells the computer it is an mp3 player, made by Apple, and is more specifically, a 2gig nano. THis is how a computer knows whats plugged into it via usb. (note side note: each device types, such as flashdrives, external hard drives, external cd-roms, external dvd drives, etc. don't need a specific device vender's individual driver, as all flashdrives are designed to implement the same i/o functionality and therefore windows can use a generic driver for all flashdrives). On the 360, the same is true: when a usb device is plugged into it, the device tells the 360 what type of device it is, followed by what its venderid and productID are. The 360 then loads the appropriate driver to handle this device. It is known and proven the 360 can handle most, but not all, usb devices such as flashdrives, mp3 players, digital cameras, the HD-DVD drive, EVEN USB HUBS! (another side note: perhaps an exploit can be found through a flaw in the 360's built in drivers for different devices, perhaps malformed usb communication could crash the 360??)
So far so easy.. just plug your 360 into your computer, make your computer tell the 360 its the HD-DVD drive, and load our own custom driver that mounts a HD-DVD iso/evo/diskfile and the video play as it normally would if you connected a real 360 HD-DVD drive into it.
Wait a minute, whats the custom driver you're talking about?
? Thats crazy talk, we'd have to know the communications protocal of the HD-DVD drive to even begin. Well we do know that the 360 HD-DVD drive can be used on a windows box, provided you download and install the driver, which is freely available to most. So we have a driver for it, we'd just have modify it to deal with mounting files, like poweriso and deamon tools does.
Ok, one really really big problem with this is that you cannot connect two usb hosts to each other. ie, you cannot just directly connect two computers together via usb and have them "talk". Since usb hosts pass up to 1 amp to a device (think usb cell phone chargers), connecting to usb hosts together will cause a short. If you've seen usb cables that do create a network via usb connecting 2 computers together, this is possible because these cables are special cables where, in the middle of the cable, there's a piece of hardware there that acts like a device, rather than a host. This way the cable looks like a device to each computer, it can pass info between the two.
We make our own piece of hardware that sits between our 360 and our computer. It will talk to the 360 telling the 360 it is a hd-DVD drive. It will have to tell the computer it is a device of some type, and that the deice is on with a venderID/productID of our liking. WE just tell windows it needs to load a driver for this particular vendorID/productID, which is, of course- some software driver that we wrote that mounts a disk from file and transmits. The device in the middle of our cable to the 360 just passes this info along to the 360.
I bought a usb development kit for about 90 bucks. IT allows you to program it as any type of device and control communications to the host. So far, i've been able to load open source flaskdrive firmware onto it, and the 360 see it as such. I can then even make the 360 look at my computer's c:\ drive as if it were a 512 meg flashdrive. But no luck with the hd-DVD drive.
Here's some external links to more info:http://www.jungo.com/application_story_microsoft_xbox.html
<--- Here is the actual 3rd party usb software company who developed the xbox 360 usb development environmant. They wrote the framework for how the xbox360 usb handlers work. You can even download they're free trial of the same software microsoft bought to use with the 360.. http://www.getcatalyst.com/product-conquest.html?gclid=CK_U3p_T4YoCFRE0UAod9mOzcA
<--- quality usb devlopment kits and usb protocol analyzers. http://www.usb.org/developers
<-- usb development reference and faq's
Let me know if you are an elite usb driver developer, maybe you can help me, as i'm just a just a business programmer, not a low level type of guy.