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I have a 8GB Memory stick in my PRS-505 which works without any issues. It is formatted as FAT32. I would expect SD and Memory stick to have the same maximum size limits?
The limit on number of files for FAT16 tends to be imposed by the fact that there are only a limited number of diretory entries allowed at the root level. If you move all files down a level into sub-directories then the same limits do not apply.
As to battery life, I am sure that plugging in an external card must reduce it as it must onsume power to read/write it. However I find that the battery life of the PRS-505 is long enough that this is not a significant issue as in any case I get days of use between charges.
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