RAW processing software is the software that does development from RAW files to something you can edit and share. (TIFFs or JPGs) The algorithms that go into RAW conversion software are complex and somewhat secret, since the quality of RAW conversion is a selling point for different software manufacturers. Camera makers like Canon and Nikon make software to process their own RAW files and software makers like Apple and Adobe make software that reads the RAW files of multiple manufacturers' cameras.
I've never used Nikon's RAW software but Canon's software (free with any camera that shoots RAW) makes excellent images but is horrible to use. Most photographers use a tool from a third party that does organization and sorting, as well as the basic image processing. Adobe's Lightroom and Apple's Aperture are the two most popular choices.
Potential downside: When you convert your whole photographic life to one of these tools you pretty much have to buy into their RAW processing algorithms. Part of the appeal of tool is the smooth workflow that comes from "development" features being built in to the tool you use for sorting, ranking, and organizing. Both tools allow for external processing engines but it's a really clunky, inelegant solution, so very few people do it.
What this really means is that the chosen tool and processing chain (Adobe vs. Apple vs. Capture One, etc.) really affects the look of your images, as much as the choice of camera, choice of monitor, and choice of paper for printing. By using Lightroom I'm really locking myself in to Adobe's view of my RAW files, which means I hope they do a good job for me. My whole imaging workflow depends on it!
Adobe Camera RAW 6.0:
With the release of Lightroom 3 (now in extended Beta) and Photoshop CS5 (released a couple weeks ago), Adobe has made a huge jump in the quality of RAW conversion, especially for shots taken at high ISO in lower light. The difference is so striking that I've been going back to older photos I took a few years ago and looking at them with Lightroom 3 and marveling at how much better they look. (One of the advantages to shooting RAW is you can easily go back and "redevelop" photos with newer technology.)
I don't think I'm exaggerating here when I say there's at least a 1.5 stop improvement with my high-ISO darker files. In other words, I can now develop a low-light shot taken at ISO 6400 and it will look BETTER than a shot taken at ISO 2000 used to look. I can't understate how huge this is for people that take photos in low-light, like at parties or concerts. It's not outrageous for people to spend a lot of money on newer cameras and faster glass to get better low-light photos - it was one of the reasons I upgraded to the 5-D mkII. Upgrading to newer processing algorithms is like getting a newr, better camera for way less money. Plus, it works retroactively on my older shots! How cool is that?
Adobe points out that their older algorithms are based on their RAW work in 2003 and a lot has changed in 2010. One of the byproducts of the new algorithms is they take more time as they apply mathematical techniques that were either not developed 7 years ago or were deemed too slow. That's fine by me - computers are always getting faster. When you find an image you like you're willing to wait a couple seconds for it to come out.
I remember back when I first got into photography with my Digital Rebel. It had an option to shoot RAW files but the workflow was so slow that I didn't usually do it. It was too painful to deal with sorting all these files (before thumbnails on RAW files worked in MacOS) and do these one-by-one conversions in Canon's Digital Photo Professional, especially on the 800 MHz G4 laptop I had at the time. The process was so inconvenient that I just stopped doing it and shot most of my stuff in JPG. There are a few shots I really like from that time period but all I have now is an edited jpg that I made for an online gallery. No original to reprocess!
So anyway, that's the skinny for now. If you're shooting a camera that can make RAW files but you've been disappointed by how well the low-light, high ISO shots turn out, give them another try with the new version of Lightroom and Photoshop - both of which have a free 30 day trial. You might be blown away by the different is quality visible in your existing shots.