I want to use a combination of xml & xslt as a templating system. The question that I want answered is: can xslt and PHP communicate with each other (i.e share variables
What exactly do you mean by "share variables"? Do you want a PHP script to generate XSLT first and use that output in another PHP script to render your XML data? If so, then yes, that's possible. It doesn't matter where the XSLT comes from.