Apple HD SC Setup 7.3.5 cannot format or initialize the 240 MB hard drive that comes with PowerBook 270c computers. You need to use Apple HD SC Setup 7.3.2, which came with System 7.5, or an earlier version.
There are only two features that are included in Apple HD SC Setup 7.3.5, but are not included in version 7.3.2: support for 4 GB hard drives and support for multiple Macintosh volume partitions.