LILO is the ``LInux LOader'' and can be installed on the Master Boot Record of your bootable hard drive to allow Linux (and other operating systems) to boot directly off your hard drive. If you do not install LILO, you will need to use a boot disk to boot Linux.
Generally, you will install LILO on the MBR of the drive yor system tries to boot first, /dev/hda for IDE based systems, and /dev/sda for SCSI based systems. If you wish to use some other loader, such as the OS/2 Boot Manager, you should install LILO on your root partition, and configure the boot manager to boot it. If you do not want to install LILO anywhere on your hard drive, you can install it on a floppy disk (the /dev/fd0 option). This will enable you to specify boot parameters while still leaving your hard drive's MBR untouched.
After selecting the LILO location you will have the oportunity to enter some hardware paramters. These are the same parameters used at the LILO boot prompt when you booted the boot disk. If you didn't need to specify anything there to have your hardware detected, you won't need to put anything here.
You will then have the oportunity to add an additional operating system to be booted by LILO (for example, a DOS system on another partition). You will have to select the type of system, and then the aprtition on which the system lives. Then you will enter a name for this system that you can use on the LILO command line to boot it.
You then are shown the /etc/lilo.conf file and asked if it looked OK. If you notice that it is wrong, you should cancel the LILO installation by choosing ``no''. At this point you can redo the LILO configuration step, or go to a shell, edit /mnt2/etc/lilo.conf (using any editor you installed -- try vi), and run lilo -r /mnt2. If you give up on LILO all together you will have to create a boot disk.
Matt Welsh's Linux Installation and Getting Started has a lot of good information on LILO configuration.