You may give GoodPlayer a try. Simple choose the video (avi, mkv, etc.) via iTunes Info tab and play it.

For me I would always choose to convert because I own a lot of HD movie with over 10k bitrate. With a small screen of 9.7' it is pointless to transfer it natively for playback as you won't notice the quality difference.

As for conversion, you can use MediaCoder (freeware) and play with its numerous settings. Things you should adjust is the video bitrate, rate mode and sound. Other than that just leave as default.