As is the case with the PSP, using the PlayStation brand on the device results in consumers assuming the device is a game machine, despite the fact that it can play movies and music. Sony have overcome this to a certain degree, judging from the success of the UMD format for movies. However, to think of the PSP as a music player is silly...I would venture a guess that most PSP owners also own an iPod.
In Microsoft's case, they would have to create a device that has a much "coolness" as the iPod, is as easy to use, and plays videos and games without interfering with the design of the device itself. They would also have to make sure that the public didn't automatically associate it with the Xbox brand. Personally, I like the name, "BoomBox".
My advice to MS, and I'm sure they'll be calling to thank me, is to focus on the device doing one thing well. The N-Gage faded quickly because it tried to do too many things; same with Tiger Electronic's Gizmondo. The iPod succeeded because it is the best music player on the market. Once that was established, they added video.
The PSP was successful because it's the best handheld gaming device (if you're using a traditional model of judging...the DS could be argued to be the best, but it's a separate entity) on the market, despite its ability to play videos and music. And, for that matter, the aforementioned DS is extrememly popular because, it too, does one thing and does it well.
I fear that MS will try to make the ultimate game/video/music device and end up not pleasing anybody. MS has to give people a reason to trade in their much beloved iPod. For me, there is no device I'd rather have for music. However, I'm not in love with the PSP or the DS. They're both great, but there is room for another.
Also, let us not forget that MS recently launched the "URGE" music service in conjunction with MTV. In so doing, they made the terrible mistake of not allowing it to work with the iPod, thus solidifying the rivalry and making people choose one or the other...guess what they're going to choose.
If MS were really smart, they'd team up with Apple (as if either side would allow that) to make the iPod connect not only with URGE, but with the Xbox 360 (currently only songs you ripped onto your PC and then to your iPod are available on your X360 playlist).
We all know that Apple, MS, and every other company wants control of your living room. The X360 is the first device that is specifically tailored to do just that. Both Apple and MS would greatly benefit from a partnership in that arena: iTunes throughout your house, a Mac here, a PC there, an X360 in your entertainment cabinet which can download and distribute video to your iPod and vice versa.
The competition over the next five years will be intense and will change the way that video, music, and games are distributed and played. I just don't know if any of the devices you do those things on will be a MS product.