Are you looking at playing Blu-Rays here? If so, then, due to the nature of Blu-Rays, something will have to be doing the downscaling since Blu-Ray's native resolution is 1080p. A little bit like upscaling, this is going to be dependent on the system - so at the end of the day, one of the components will do a better job with the downscaling than the other and this is how you decide. Personally, my money is on the PS3 i.e. set it to output at 720p and let the projector do the rest. But definitely try it with the PS3 outputting at 1080p and then see what the projector does with downscaling the picture. It's very possible this might produce a better image. At the end of the day, go with whichever you think delivers a better picture.