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From the Action menu on any running Virtual PC 2007 virtual machine, if you click "Install Virtual Machine Additions," this is what you see next. It literally implants a CD-ROM ISO image into the virtual CD/DVD drive and then runs setup off that "virtual CD."
The reason VMAs cannot be installed when the virtual machine is created is because the software that enables the guest operating system (in this case Windows XP) to access the shared drive must be installed on the guest operating system. That's what's happening here. This is a little bit different from how VMWare handles it.
For David Berlind's write-up on The Virtual PC 2007 User Interface, see his post in ZDNet's TestBed blog.