Before we see an iPod AV, we're going to have to see some changes in the entertainment industry. The motion picture industry will be getting involved soon, in a similar fashion as the RIAA. The RIAA went into crisis mode, the MPAA can wait longer since movie files are not perfect quality and are huge downloads, so average computer users aren't swapping them the way they swapped 4MB CD-quality audio files.
Right now, consumers are using an obsolete format with DVD. Mpeg-2 is not modern compression, and Sony may just have something with their 1.8GB PSP optical disc, and their use of Mpeg-4 will allow them to fit a ton of video in that space. Sony is way ahead of the pack in the mobile video area because Apple has focused almost exclusively on the music biz (they made the right choice, the market was soooo ripe and they took full advantage).
So, Apple may eventually make an iPod AV, but then they need to find a legal, DRM-capable way to get movies onto the iPod, and isn't it illegal to use software that decrypts DVDs? How would they distribute? Even broadband doesn't handle 1GB files very well, and consumers don't want to deal with space-hogging movies. Other questions come up too: if the movie only exists in digital format, you are going to need to keep it somewhere because a full collection (I have over a hundred DVDs) would fill up any hard drive. If the device is 40GB, which is generous, that space will be full of music, maybe games, etc. so managing space would be difficult. Disclaimer: yes, I know some people would be happy with low-res, small movies, but most consumers would want to plug into a big TV and replace their DVD player (like the iPod dock replaces your CD player).
Recording video from an external source is something I'm not sure how/if Sony will address. That would add to the bulk of the device significantly, so I'm thinking there may be a recordable model and a play-only model. Good video encoding is processor and hard-drive intensive, so it's really something that needs to be plugged in to an outlet.
I hate to say it, but with current technology, Sony is going to dominate the portable video player market. Movies are going to require removable disks at this point (if you want full-quality so you can plug the device into a TV). Apple honestly doesn't have the capability to move in that direction at this time, because they can't introduce a new media format and expect it to gain any acceptance in the movie industry. Sony can, due to their mindshare. If Apple could partner with Sony or license their disc technology, we may have something...