Forward compatibilty would be best explained like this:
Buying Twilight Princess on Wii and having the option of putting the disk in the GameCube and playing it with the Cube controller with the world flipped..
Or perhaps playing Halo 4 (Which I'm assuming will be a XBOX 720 launch title) on 360 and having the graphics drop and having to play it with the old 360 controller with limited game modes etc.. If people wanted to play Halo 4 they could buy it and not buy the new 720 but then they'd be missing out on game modes and the awesome new control scheme that everyone's talking about so they'd go ahead and upgrade as soon as they could.
It'd be like building up 720 libraries of the 360 owners so that when they're looking at buying their next console they feel like 720 is the best option because they already have some games for it. There are MANY downsides of course but it would make third parties less scared of releasing new titles on the 720 and after a couple of years Microsoft could faze out the forward compatibility so that people would wanna jump to the 720.
It could work really well if they do it right..
