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Failed to connect to server. Error: 0x80004005

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The .Net Framework 2.0 SP2/3.5 SP1 fails/crashes immediately after running the Setup on Windows 2003 systems. As per the failure verbose log ( How to Enable Microsoft Installer logging ):

=== Verbose logging started: 1/14/2013  5:35:52  Build type: SHIP UNICODE 4.05.6001.00 Calling process: c:\6449087192a6054b8a1d78bb6c\setup.exe ===

MSI (c) (CC:50) [05:35:53:460]: Original package ==> c:\6449087192a6054b8a1d78bb6c\vs_setup.msi
MSI (c) (CC:50) [05:35:53:460]: Package we're running from ==> c:\6449087192a6054b8a1d78bb6c\vs_setup.msi
MSI (c) (CC:50) [05:35:53:476]: APPCOMPAT: looking for appcompat database entry with ProductCode '{C09FB3CD-3D0C-3F2D-899A-6A1D67F2073F}'.
MSI (c) (CC:50) [05:35:53:476]: APPCOMPAT: no matching ProductCode found in database.
MSI (c) (CC:50) [05:35:53:538]: MSCOREE not loaded loading copy from system32
MSI (c) (CC:34) [05:35:53:570]: Windows Installer proxy information not correctly registered
MSI (c) (CC:34) [05:35:53:570]: Failed to connect to server. Error: 0x80004005
MSI (c) (CC:50) [05:35:53:570]: Failed to get IMsiCustomAction*

Another type of log snippet:
MSI (s) (64:9C) [11:07:37:574]: Internal Exception during install operation: 0xc0000005 at 0x0094D0F5.
MSI (s) (64:9C) [11:07:55:209]: Crash report directed to WER.
MSI (s) (64:9C) [11:07:55:209]: Internal MSI error. Installer terminated prematurely.
MSI (s) (64:9C) [11:07:56:781]: MainEngineThread is returning 1603

The Windows Installer executes an installation in two distinct processes.  One is a client process and the other is a server process.  The log file will show the installation information for both processes.  In a typical verbose log file, you will see lines like the following for a line that denotes the information presented was done on the client context of the installation:
        MSI (c) (29:28) : Resetting cached policy values

In a typical verbose log file, you will see lines like the following for a line that denotes the information presented was done on the server process of the installation:
        MSI (s) (A0:EC): Original package ==> D:\TEMP\Default.msi

So it was unable to connect to the server process. Surprisingly, The .Net Framework 2.0 RTM gets installed successfully on the same system. Even other MSI packages are also installed successfully. After debugging the issue, I found the above issue occurs due to a bug with Windows Installer 4.5. If the hotfix 972397 is installed on your system, this issue would occur. In order to resolve the issue, please install this hotfix https://support.microsoft.com/kb/983280