Now we know how it plugs in and still allows for all four controllers.
The new issue of Famitsu Weekly, Japan's premiere gaming magazine, shows the GameCube Microphone first mentioned a couple of weeks ago in conjunction with new Mario Party 6 information.

As you can see in this picture, the microphone is handheld, not attached to the system or controllers, and it plugs into one of the GameCube's memory card slots. This feature allows it to be used while still having four controllers plugged in.
The microphone is compatible with Mario Party 6, the upcoming Eidos game Get On Da Mic, and possibly other unannounced titles.
Thanks to the Gaming-Age Forums for the scan!