When you have Digital Zoom switched to Off in the Menu and therefore Safety Zoom is also off, the use of smaller pixel-sizes, such as 5-MP and 3-MP, is handled differently by the camera's processor. Without Safety Zoom in operation, a 5-MP setting will produce an image that is derived from the full 8 MegaPixels of the CCD.
It is encoded as an 8-MP image and then re-encoded for the 5-MP pixel-size. This 2nd encoding does not help the image quality. However, with Safety Zoom in operation, when you zoom into the yellow zone above the regular zoom range, a smaller, inner-sector of the CCD is used to produce the 5-MP image. It is encoded directly for the 5-MP pixel-size and isn't degraded by a double-encoding process. The image that is taken from the smaller sector of the CCD becomes full-screen and this is what gives it the extra magnification effect. This explanation has come from several experienced photographers, but I've never found any detailed explanations of it from any of the manufacturers who use similar expanded-zoom systems. Sony uses a zooming feature of this type that they call, "Smart Zoom".
Now, there's a part of this that hasn't been made clear at all to me. What happens to a 5-MP or 3-MP image, when the zoom is in the normal range, up to 12X, when Safety Zoom is turned on? Is the image from that normal zoom range double-encoded and derived from the full 8-MP image? Is the direct, single-encoding process used only when the zoom has moved up into the expanded range? Or, is there a single-encoding that is used from a smaller, inner sector of the CCD, all the way through the zoom range, when Safety Zoom is switched on? If the smaller sector was used throughout the whole zoom range with Safety Zoom, then at the wide end, the field-of-view (FOV) would be narrower and it would have an effective focal-length that was larger than 36mm. Some careful FOV tests might reveal the answer to this. I know that some people claim that Sony's Smart Zoom doesn't narrow the FOV at the wide end, as it reduces the active CCD sector only in the extended part of the zoom range. How all this affects the encoding process and image-quality in the normal zoom range with Safety Zoom, is not certain to me, but perhaps other people have some insight about it.
In any case, I usually switch Safety Zoom on in my S5, only when I'm planning to go up into the expanded yellow zone. Since it is integrated into the same zooming progression as Digital Zoom, it is too easy to accidently slip into the forbidden blue zone, where I don't care to be for reasons of reduced picture quality. Sony has their Smart Zoom in a separate Menu selection from Digital Zoom, that makes it simple to avoid that problem.
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Steve McDonald
http://www.flickr.com/photos/22121562@N00/ 
