If you have an up scaling DVD player, it will output a 720p image and signal to match you projector. The up scaling algorithms vary, but can be pretty good.
I got a $300 Sony receiver that does all the fancier / newer audio formats. I had a spare pair of speakers to make a 7.1 system. Center, 2 front, 2 middle surround, 2 rear surround, and subwoofer. I am quite pleased with the Sony, especially the features for the price.
Blu ray's big advantage is the amount of data that can fit on a disc. Something close to 60 gigabytes. With that much space, they don't need to compress the video and audio. There is going to be loss of quality with compression.
You can really see compression artifacts with 4 megabit MP4 streams, like on DirecTV or cable. Sports programming is the worst because the background tends to be noisy - lots of fans in the stands moving about. And they pan the camera to follow the action, which makes the compression even less effective.
There are about 2m pixels in a 1080p frame. If all those pixels are the same from one frame to the next, the second frame can be compressed to the equivalent of a couple pixels, basically a command to the decompressor to simply repeat the previous frame. If all 2m pixels change from frame to frame, you need a new 2m pixels worth of information for the next frame.
It becomes a real issue when there's only 4m bits per second to send 60 x 2m pixels of information. Obviously something has to give, and it's picture quality.
DVD's do look better in a blu-ray player than a regular DVD player. That's how I can stand the decreased quality when I watch a DVD instead of a blu-ray, because it's not as drastic as it would otherwise be. It's kind of like the difference between stand tv and HD tv, but not as drastic though.
