The Xbox 360 dvd player plays about as well as the $40 Apex POS DVD player my brother has...
You want to know what's wrong with it? Here are things I've noticed on mine and my friend's 360s:
-Horrid black levels, dark colors come out grey and grainy, in some cases dark grays come out in true back while the areas that should be black come out in a dark grey making the image look like bright image that's been inverted.
-Artifacting, EVERYWHERE the only place I've seen more artifacting was on the discovery channel when they were covering some expedition in egypt. If you don't know what this is: basically little squares that pop up here and there off color or garbled.
-Stuttering between layer changes. This is the mark of a truly crappy DVD player, with the caching abilities and drive speeds we have today this shouldn't be a problem for even cheap DVD players, yet the 360 still does it. Basically the video stream isn't cached far enough so when the movie moves from layer 1 to layer 2 of the disc the video physically pauses for a split second before continuing. This was a very big problem in older DVD players, specifically the cheaper ones where they didn't cache much of the video. Because of this most DVD makers would break the movie during a scene change, so all you'd see was a slightly lengthened black screen between scenes. However not all movies have a convenient fade to black directly at the center of the film making this very noticeable when viewed. There is NO excuse for this as the 360 has more then enough space to cache far enough ahead to prevent this.
-Audio clipping when changing between scenes, or modes. The 360 has a really big problem with digital audio when the signal goes flat. Most GOOD AV devices have an inaudible "heartbeat" that keeps the digital signal alive so the digital decoders (DTS/DD/etc.) can keep connected to it instead of re-initializing every time the audio goes silent temporarily. The 360 doesn't include this so on receivers like mine, that are setup to automatically detect the digital encoding type and decode it, whenever the audio goes silent, even for a fraction of a second, the receiver is triggered to re-detect and re-initialize, making adding about a half second break in the audio after a split second of silence. This is particularly annoying during scenes where the film goes silent just before a big explosion, the audio is still initializing when it finally hits and then cuts in mid-way through the explosion sound. Not only does this totally rip you out of the movie experience but it wreaks havoc on your speakers, and your ears.
-No signature determining full or widescreen. I run a DLP front projector, it can work in either 4:3 or 16:9. Most GOOD video devices that can produce both will output a signature in their signal that will alert displays to show the signal in the appropriate aspect ratio if it's not apparent (such as in SD and ED signals). Much like the Xbox 1 the Xbox 360 is completely devoid of this signature, meaning my projector has to be manually adjusted to the appropriate aspect ratio whenever I watch a DVD. Hell My PS2 even has this signal built in. If I pop in a Full Screen DVD it will automatically adjust to 4:3, if I pop in a widescreen DVD it will automatically adjust to 16:9... not so with the 360.
-Screen Tearing, not as apparent as the other problems but still problematic During fast motion sequences, particularly in films that are interlaced and the 360 is displaying in progressive there will be screen tearing, this is due to misuse of absence of vsync in the 360s DVD player. Screen Tearing problems on the 360 are apparent and re-predicable and never occur on my Xbox 1 running XBMC or my PS2 (which is quite possibly one of the worst DVD players on the planet).
-Finally No upscaling support. This one just bothers me, there is no good reason the 360 shouldn't do this, the hardware is more then adequate, not to mention just about every new DVD player worth it's weight features up-scaling support. Heck I was at Best Buy over the weekend and they had a rack of 8 or 10 DVD players, ALL of which featured upscaling and NONE of which were over $120 (some as low as $70). If your $300-$400 self proclaimed "king of the living room" can't compete with a $70 cheapo DVD player then that is just SAD... Probably worse then it not supporting upscaling is that it forces those with VGA adapters to watch their movies in 640x480... FOR SHAME!
I could keep going with it's problems... but most past this I'd consider nit-picking... The bottom line is, you could buy a better DVD player for under $100 at Walmart, and if MS is serious about making the 360 a media hub they have a lot of work left to do. At this point you'd be better off just keeping whatever other DVD player you have as you'd be hard pressed to find one worse then the 360.