Hi Colin. I'm glad my post saved you time and frustration.
The crux of the matter is that derived tables can only contain ANSI-92 SQL. So more advanced SQL features (such as that found in SQL Server) aren't supported...and using such results in a failure when the SQL is executed in WebI.
I'm curious to see how SAP will resolve this with BusinessObjects BI 4.1. Will the updated Data Federation Layer suddenly gain support for SQL Server's (and other vendors') advanced SQL? Or will the layer delegate the parsing/transaction of the SQL to these vendors' database engines (presumably as the IDT does)? Whatever SAP ends up doing, I hope it's robust enough to truly overcome the current limitation.
In my case, I'm relying upon SQL Server views upon which I need to use advanced (i.e., SQL Server-specific) SQL features. I cannot modify the views...and it wasn't practical to try to emulate the advanced SQL. So, using another SQL Server, I created a linked server object to the server containing the views. On this linked server, I created 'compound views' (my terminology) that consume the original SQL Server's un-modifiable views; I added the advanced SQL to these 'compound views'. Lastly, I created a connection to this other SQL Server, added the connection to my data foundation, and then added these 'compound views'. What a mess! Surprisingly, however, it works--in both the IDT and in WebI! If/when SAP resolves this issue, I won't have to use this Rube Goldberg approach any longer.