What does it mean if your Lego universe server needs to be updated?

Answer 1

It means that a piece of software you have and run (the LEGO Universe server, namely) needs to be updated.

If you're connecting to some remote location over the internet and this message is presented instead, it means that probably you're using a newer version of the program, and the person you're connecting to is using an older version. In that case either you have to use an older client, or the server owner must update the server program.

Alternatively you could search for other servers that are compatible with your client version. It all really depends on what you prefer and what you need.