The problem is just that you need to convert the .mlb file to .blib format before adding it. This is true of most spectral library formats that Skyline deals with. I can see where expecting the conversion step to happen automatically is a reasonable user expectation, but it's just not how it works at the moment.
That said, this particular example .mlb is rather strange compared to what we've seen before - all molecules have the same name and adduct, and no chemical formula. All that differs is RT and precursor m/z. As we use molecule name and adduct as the library locator key, there won't be much we can do with this file - from Skyline's point of view its contents are inherently in conflict with each other.
It does appear that we're not properly filtering out the MS1 data, which I'll see to, but the other issues remain. I'm happy to work with your engineers to find a solution.