IMac will only safe boot (blue screen when not safe booting).

A buddy asked me to help with his Intel based iMac. It was giving a blue screen when trying to boot up (and an odd cursor along with the blue screen). The cursor moves around the blue screen but looks like two cursors. One cursor is a normal arrow pointer, the second is a rectangle about .25 inch wide and 1 inch tall made up of about 10 horizontal lines.
I'm very familiar with Macs and OS X and was sure it was probably a messed up preference file (most likely login preference). It wasn't.
Here's the odd circumstances:
I have an intel macbook that if I use firewire target disk mode I can boot just fine off his iMac.
His computer will not boot off my Macbook that is in firewire target disk mode.
We cloned his hard drive to an external firewire hard drive (using Carbon Copy Cloner), my Macbook boots off it just fine, his iMac will not.
He's been wanting to go to Leopard so we upgraded his computer (did basic upgrade), but it still blue screened (with odd cursor).
Then we did an erase and install. Still no difference in behavior.
I would almost be convinced that it's a hardware failure, but it will safe boot every time.
Here's what happened when it died. His son was playing a Star Wars game (I'm not sure which one). The kid was in the middle of the game and paused it when it was time for dinner. When the kid went back to play, the computer was frozen. They tried everything to unfreeze it and ended up powering it down. Started the blue screen ever since.
He's going to contact Apple (it's barely still under it's warranty) but I was hoping someone here has another idea what it could be.

I found this topic while trying to find an answer to my problem. It seems we have a similar thing going on with our imacs (although mine is a much older crt imac). I'll copy and paste my original post from the imac board :
Hi
I received a free imac snow (G3 500mhz) from someone. He told me it was broke, and someone told him the logic board needed to be replaced.
I brought it home and tried to start it up. It gave the '?' folder icon. I started up from an OS 9.1 cd - Success! Except there was no HD. I opened it up and discovered that the HD wasn't connect to the ATA cable. I was able to start up to a previously installed Tiger. Except once it booted it would quickly freeze - the mouse pointer would turn into a scrambled beach ball (very strange) and wouldn't move.
I did some research and found about the potential problem with OS X and the imac's firmware. I restarted from the 9.1 CD and installed that OS. Everything seemed fine and was running ok (from my limited time on it). I then DL'd the latest firmware for the imac (4.1.9.) and tried to run it. Except the message came up that the latest firmware had already been installed. So i guess thats a good thing. I don't have to worry about firmware being a problem.
So i did a zero out wipe on the HD and installed tiger from the dvd. But on the first restart after installation (where i should go to the set up assistant) I get the scrambled beach ball and it freezes.
I thought perhaps the HD is faulty and ran disk utility on it - it came back as fine. I doubled checked to make sure it was set to 'master'. it sure was. I decided to swap out the HD anyways since i can't see what else could be the problem and put in a different 30gb IDE drive. I once again zeroed out the drive and did a fresh install of tiger. On restart i get the same scrambled beach ball and the freeze.
I guess i should describe the scrambled beach ball. It's seems like the beach ball icon, except the bits that make it up are out of order and glitched out.. perhaps a video problem?
Could this really be a logic board problem? It was working in OS 9.1 fine. It starts up from system CDs and DVDs fine. Wouldn't a logic board exhibit the same problems on those systems?
Anyone have any idea?
Update - starting in Safe mode (restart with shift held down) works, and i was able to update to the latest version of Tiger, but once i restart with the full system i get the same problem.
This seems to me that it ISN'T a logic board problem, but more of a system software problem. Now my question is how do i isolate and fix the problem in Tiger?
I guess i'll post this question in the Tiger forum, but if anyone has any ideas please let me know.
Thanks

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