Mega 2560 + SerialIP library + WinXP (SLIP)

I uploaded the example 'hello world' sketch to my Arduino but can't get telnet to work.
http://playground.arduino.cc/Code/SerialIP

On the WinXP (guest) side, when it tries to connect, I see the rx led on the board blink.. and the data the arduino gets is "CLIENT". If the Arduino says "CLIENTSERVER\n" the connection is established and it pings fine.

Then if I try to open a telnet connection the Arduino callback never gets called. The IP/port are correct so not sure what else could be wrong.