If you just want to play Xvid (and WMV) – then simply install WMP 11, and in the Tools->Options, Library->Sharing, share to your 360. Then simply add your media directory to your WMP library. Pretty easy.

If you want more features (namely transcoding of unsupported media files), and are happy to do a bit more setup, then install TVersity. Use my guide, and the TVersity Quick Start Guide. For me this worked easily on XP (don’t forget your firewall settings!) but it can be a real pain on Vista. My brother finalled managed to get it to work, following the steps here (also copied below after the jump).

From damcio

For anyone trying to get Tversity work on Vista 64BIT (im 100% sure this will help on 32bit also).

If you have any problem try this tutorial (sorry for no pics I don’t have english windows so I’m also kinda translating the options names):
1.Create new account in Control Panel\Users accounts and name it tversity (it is a matter of choice but this will help you organize things if you have multiple accounts on one pc.)
2.YOU MUST make a password for this account. I made “1″ for a password so I could quickly log on.
3.Also it should have admin privileges.
4.Goto Administrative Tools\Services
5.There look for Tversity Mediaserver service and double click it.
6.Select the Logging tab.
7.Tick the “This account” selection and right next to it write .\tversity and for password write “1″ (If you made different info in your account login and pass will be of course different).
8.Click ok, and on the left side of Services window there will be “Restart” option. Click it and let mediaserver restart.
If you want subtitles you have to configure ffdshow or other subtitle filter you have on the tversity account.
Also don’t panic if you can’t configure TVersity on tversity windows account (kinda confusing eh?). It is not supposed to do so. You need to configure and add media from your other accounts, but most likely your first admin account.

This solution helped me with two issues. First I did not have subs, now I have. Second my songs had doubled length eg. 2 minute song went for 2 minutes but after that I had 2 minutes of silence because PS3 thought that song lasts for 4 minuts.
I hope this will help for some of you.

Here’s how:

1. Install Windows Media Player 11
2. Install TVersity (install the ffshow codecs when prompted, default settings should work)
3. Open port 41952 in your firewall (if Windows Firewall, unblock TVersity and also add the port using “Add Port”)
4. Visit http://localhost:41952/ to view TVersity. You may need to reboot before doing this.
5. In TVersity settings, select Xbox 360 as playback device, and under transcoder, increase resolution to 640×480 (if you have a semi-decent computer)
6. Disable all other media sharing programs and connect to your PC from your 360

TVersity also installs a new right click option in explorer which is “share this folder with TVersity” which is extremely convenient.

References:
Quick Start
Playing DivX and Xvid content on Xbox 360 – An easy guide!
WMV coming to 360, can TVersity support it and transcode? (a bit out of date, see update)