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The problem is that on your system, there is a v3.5 subfolder with no msbuild.exe in it (which is normally the case if .NET 3.5 has been installed). Either delete/move that folder or install VBP v6.7 -- one of the changes in 6.7 is to use msbuild.exe from .NET v2.0 for building VS2005 solutions even if .NET v3.5 is detected.
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