<Error Log>

Below is a summary of the errors, details of these errors are listed later in the log.
    * Activation of C:\Documents and Settings\<Username>\Local Settings\Temporary Internet Files\Content.IE5\PEB6XSQC\*.application resulted in exception. Following failure messages were detected:
        + Downloading file:///C:/Documents and Settings/<username>/Local Settings/Temporary InternetFiles/Content.IE5/PEB6XSQC/<Appname>.application did not succeed.

    Following errors were detected during this operation.
    * [10/28/2008 3:00:20 PM] System.Deployment.Application.DeploymentDownloadException (Unknown subtype)
        - Downloading file:///C:/Documents and Settings/ykasan/Local Settings/Temporary Internet Files/Content.IE5/PEB6XSQC/HIC Report Launcher.application did not succeed.
        - Source: System.Deployment
        - Stack trace:
            at System.Deployment.Application.SystemNetDownloader.DownloadSingleFile(DownloadQueueItem next)
            at System.Deployment.Application.SystemNetDownloader.DownloadAllFiles()



In My case the Publish Location was \\<Servername>\c$\wwwRoot\VirtualDirectory\
This UNC path was Publishing the application on the web server under same Domain
However, when we changed the publish Location to http:\Webserver\Visrtual Directory in Place of UNC Visual studio gave Error

Failed to connect to 'http://<Server>/<Virtual Dir>/' with the following error: Unable to create the Web site 'http://<Server>/<Virtual Dir>/'.  The Web server does not appear to have FrontPage Server Extensions installed.           


-Check if Web server has FrontPage Extension installed and Install it if its not installed already
-check that FrontPage extension is accessible as well

-Check that Clickonce MIME types are also set on web server

To set MIME types in the IIS root directory's -> Properties -> HTTP Headers -> MIME Types.RightClick the Default Web Site of your IIS, then Select Properties, then go the HTTP Header tab. Near the bottom of the tab there is a command button called MIME Types
Click the MIME Types button. A New dialog pops.

Extension to .application and MIME Type to application/x-ms-application
Extension to .manifest and add MIME Type to application/x-ms-manifest 
Then add the Extension to .deploy and  add MIME Type to application/octet-stream

Please check MSDN For More information on MIME types and Clickonce Configuration.