From ME to XP is always a good idea. Windows Mangled Edition has the same problems as 9x did.
Rundll32 is a method for invoking functions in dlls without having an executable program call them, usually used in applets like those found in the Control Panel. mmsystem.dll is the multi-media library, and handles audio, dvd, some cd functions, and other multimedia stuff like video streams.
The problem is most likely caused by a program that has installed a different version of mmsystem.dll but that is by no means certain, and is difficult to fix ... you've landed in what developers call "dll hell", and the most common fix is to re-install the OS.
I (personally) do not like ME (no pun intended). I do like XP. The upgrade issues are to make sure that if you have any onboard devices such as audio, LAN, SCSI, or RAID, that those devices are supported by XP. Compaq is noted for making almost-compatible devices. A quick call to Compaq will confirm, but I don't anticipate any problems with such a recent machine.
If you have the original ME installation cds you certainly have a fallback, so go for the XP immediately.
There are few, if any, user interface issues to deal with. XP looks a lot like ME, with a few exceptions, but the transition should be painless.
hth