If you want to develop silverlight applications for windows embedded compact 7 based devices. You need to use Expression Blend 3 tool.
If Silverlight For Windows Embedded Application Project Type in Expressoin Blend 3.0 is not listed in expression blend 3 project types in your Expression Blend 3 as shown below , You need to install  Windows Embedded Silverlight Tools Blend Templates to show silverlight for windows embedded application project type.
To add windows embedded blend template into expression blend 3 , you need to install WindowsEmbeddedSilverlightToolsBlendTemplates.msi.
You can find this WEST directory of windows embedded compact 7 installation DVD 1.  To install Windows Embedded Silverlight Tools Blend Templates, double click  WindowsEmbeddedSilverlightToolsBlendTemplates.msi. It will start installation as shown below
Wait for installation to complete.
Now when you open express blend 3 you can see that Silverlight For Windows Embedded Application Project Type is now available in Expressoin Blend 3.0 as shown below.

Now You can create Silverlight For Windows Embedded Application project using expression Blend 3.