I don't doubt Apple is testing a smaller iPad. Apple tests all sorts of things; that doesn't mean it'll come to market. But if they're testing actual production prototypes, then it's a good bet.
Let's see: five-head, bushy eyebrows, huge nose, asymmetrical chin, and teeth she could sell ad space on. Oh, wait, I'm sorry, Alyssa. I shouldn't judge you based on appearance; that's very shallow of me.
Or we could have simply continued to use F-15s and F-16s. Oh, wait, we are still using them, because the fifth generation fighters are too glitchy to fly and will soon be outclassed by UAVs.
A lot of people are frightened and intimidated by computers, in any form, so selling them on hooking one up to the TV is difficult. It really is the best way to go, though. Using a HTPC eliminates the codec problems, the storage problems, you can browse the web with no restrictions (including video streaming sites that block set-top-boxes).
Modern energy-efficient processors and "good enough" integrated graphics have cut heat and power consumption down to something you can ignore, too.