I just received my iPod w/ video along with an A/V cable.
When you go into the videos menu, there is another menu called "Video Settings." Under that menu are a number of options, including one that says "TV Out." You can set that to On, Off, or Ask. It is set to Off by default.
When set to on, the iPod uses the TV output only when a video is played, not for the menu. When set to ask, every time you play a video, it asks whether you would like it to go through TV out or not. Of course, when set to off, video only plays on the iPod screen.
When playing video out to the TV, the signal is not mirrored on the iPod screen. Instead, a menu is displayed similar to that of a playing song, with cover art, the title/album info, and a playhead that shows where you are in the video. Similar to songs, turning the click wheel adjusts the volume, while pressing the center button and then turning the click wheel scrubs through the video.
As for the signal playing from the TV out, it is scaled to full NTSC resolution. Doing tests (albeit on a 14" television) with an episode of Lost and a couple of music videos, the quality was comparable to watching a low- to medium- quality TiVo recording. The audio sounded great.
As people here have speculated, there is no "Front Row"-style interface. Jobs' presentation seems to have been some type of proprietary connection.