This mode downmixes all signals (including 5.1 and 7.1 sources) to stereo and then copies them to each pair of speakers (fronts, sides, rears, etc), with the centre speaker getting both channels combined. Some old receivers used to label it a 'party' mode, since it just duplicated the sound to all speakers and was useful when wanting background music.
As for which mode you need, that depends on source. For 5.1 sources, you don't need any processing for your 5.1 set-up. The source will be automatically decoded using the appropriate Dolby or DTS decoder, and each channel will be sent to its respective speaker. If you want to convert 2-channel sources to 5.1, then try Dolby Pro Logic II. One of the good things about PLII is that it has a Music mode that allows you to choose how much is extracted to the centre speaker and surround speakers.