I have VLC running on my laptop which does happily plays CDs and movies on the local disk. However I'm not able to play DVDs.

In the Preferences under Input & Codecs Settings where default disk device can be set I'm getting 2 question marks in diamond shape and the browse button next to text field doesn't respond. I have distinct feeling that Ubuntu is not picking my DVD driver correctly and misplacing it with CD drive.

Suggestion how to solve this issue?

Actually can you make sure your cd drive is actually also a dvd drive? Look near the place where you click to eject the drive. If it says "DVD ROM" or "DVD R" or "DVD RW" than you should be to watch dvds.

It MacBook Pro 5.3 so you can bet it has DVD drive

hmm have you tried contacting Apple and or asking on apple support site?
This seems to me like a hardware issue.

However try the perian codec for quicktime and try playing with quicktime.
http://www.perian.org/

Have you tried running update manager? It may be a small thing but some essential files may not be present to properly run VLC player. You might as well download Ubuntu 10.10 to be sure.