Application Relay off Exchange 2003 on SBS 2003

DennisDavis used Ask the Experts™
I have an SBS 2003 server running a remote backup client which dumps backups to an off site facility.  The backup client has an email notification option which I have enabled and configured to use the administrators credentials for authentication to the mail server (itself).  The problem is the email keeps failing.  The application throw a generic saying the " Email: was unsuccessful".  The log in the event viewer looks like this if it's any help:

This is an SMTP protocol log for virtual server ID 1, connection #15277. The client at "" sent a "ehlo" command, and the SMTP server responded with " Hello []  250-TURN  250-SIZE  250-ETRN  250-PIPELINING  250-DSN  250-ENHANCEDSTATUSCODES  250-8bitmime  250-BINARYMIME  250-CHUNKING  250-VRFY  250-X-EXPS GSSAPI NTLM LOGIN  250-X-EXPS=LOGIN  250-AUTH GSSAPI NTLM LOGIN  250-AUTH=LOGIN  250-X-LINK2STATE  250-XEXCH50  250 OK  ". The full command sent was "ehlo realsbs01".  This is an informational event and  does not indicate an error.

I have used telnet from the server itself to test using the same email addresses and everything looks fine but the message never seems to hit the queueu although telnet says the message has been queued.  Anyone have any thoughts on this?  I assumed the connector would accept email from an application if it is authenticating but this does not seem to be the case.
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I discovered a solution.  We had to use "localhost" as the smtp server name.  Strangely enough I tried everything but "localhost" including  

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