it means that the size of the image must be square:
128x128
256x256
512x512
and so on.
I'd go somewhere inbetween 128x128 and 256x256
you should be able to get a hud flash up every time your hit by using the
Shotdamage=1
condition during state=1 of the setuplevel.fpi script. You'll have to read the script and suss out how the bloodsplats are created (in the script) and placed on the screen, then make a new bloodsplat, that fills the screen (use the eyehud.dds image for a size reference) and have it flash up and fade away in the same line.