Going back to basics, there is a bitstream on the CD and the idea is to feed that to a DAC to convert it to analog. PCM just (I believe) means pulse code modulation, which basically means communicating bits between two devices by an agreed upon standard for interpreting voltage pulses on the wire between them. USB is a serial interface, which means among other things (I think) that its buffered, so its a bit more hardware to implement than something translating pulses into TTL signals for digital processing. So, because coax digital is PCM, and USB is specific serial protocol, there is a conversion from a serial protocol to a different electrical format. Hopefully doesn't mean that the actual datastream of 1's and 0's is changing, but when I've got a box that is USB on one side and coax digital on the other, I call that a "converter."
Of course, I could be dead wrong. Its happened before. ; )
AIFF/WAV/MP3 is just a means for storing the bitstream on media. There is all sorts of stuff added to store things--directory records, sector sequence data, etc--even if you aren't doing any compression. But, with compression, you also need software to recover the original bitstream (or something that looks pretty close, if it was lossy compression).
I wonder, based on what you said, whether your M-Audio somehow ran the bitstream through a low end DAC and, if you used the digital out, ran it through an analog to digital converter. Doesn't seem to make much sense to me, but might explain the problems.
Sample rate conversion sounds sketchy to me in terms of rewards... Can't get more samples per second out than there are samples per second in. But, that is what oversampling is and that seems well beyond my technical competence. How does the thing *sound*? I guess the benefits of creating a 24/96 stream out of a 16/44 stream is going to depend heavily on the quality of what is doing the conversion...