Need guidence on high resolution optical rotary encoder...

Hey all, I apologize as im still a little new to this.

I have a project where I need to accurately monitor a rotating shaft. I have picked up an expensive optical rotary encoder from BMI, with a resolution of 500 pulse/turn. On average the shaft will be turned "maybe" 1 revolution a minute so 8-10 pulses a second. I only need to monitor rotation in one direction, and after XXX number of turns I need to send a signal to another Arduino to trigger a series of relays. For the encoders controller I am using a mega 2560.

From the standpoint of programming I know there are a number of examples out there, but many are giving the suggestion that they may not be able to deal with high resolution encoders, I have also read suggestions of using interrupts (still learning about those) but im not 100% sure if that would work or not... Am I barking up the wrong tree wanting to use an arduino for this? is there somethign better or should a Mega be able to handle it?

Additionally I Ideally would like to be able to use the mega for monitoring temperatures from a series of probes and then dump the data back via the ethernet sheild + to some serial LCDs, (which I know is very doable) but would combining this counting system with temperature monitoring be too much?

thanks for all the input
-walker

Software reading of the encoder can handle hundreds or thousands of pulses per seconds. Using interrupts should allow thousands or possible millions of pulses per second. At 10 pulses per second your Arduino will have LOTS of time to do other tasks like temperature reading and LCD writing.