Spain

Vueling, a discount Spanish airline, has direct flights from Bilbao to Sevilla for about 80 Euro per person....I assume you know you'll be passing right over Madrid en route.
Because of that, you would have to do Granada on the latter leg of your trip. Unfortunately, there are no high speed trains into Granada as of yet, so whether it's the train, bus, or car, the travel time to Madrid will be about five hours.
Another option might be to catch a Spanair flight to Granada via Barcelona. But, at this point, the quickest travel time is about 4 hours, so you'll have to be careful selecting the flights. Then you could move to Sevilla and take the high speed AVE train back to Madrid.
Car is the only way to get to Toledo if heading to Madrid from Sevilla or Granada. But, with the long driving times involved, it would be impractical to see Toledo as a day stop along the way. Since you are going to end up in Madrid, could you allot some time to visit Toledo as a day trip from there? The high speed trains make the run in only 30 minutes.

Thank you for the input. I think we will fly to Sevilla - 4 days with day trips to other towns, then travel to Granada for 2-3 days. We're leaning towards driving to Madrid (we are flying home from Madrid, hence the seemingly circuitous route) with an overnight stop along the way. Other than Toledo,if we decide to take the high speed train back there from Madrid later, are there any other suggestions for an overnight stop? Also, we are planning to rent an apartment in Sevilla. Does anyone have any recommendations on which area of the city would be best to look in for one?

I'm actually kinda partial to Jaen, an under-rated little city with a great little archaeological museum, a magnificent cathedral, and some fine Roman ruins and Arab baths. But it's only an hour's drive from Granada. And if it weren't relatively far off your track, I'd suggest an overnight in Cuenca.
One suggestion might be to overnight in Cordoba. Head for Jaen then turn west on the A-306, the A-316 and the N-432. You'll find lots of interesting towns through the mountains here, like Alcaudete and Alcala de Real, with Moorish castles and magnificent churches....sort of like the "white villages" but farther north, guarding the entrance to the plains of La Mancha to the north. And, of course, the Mezquita, the Alcazar, and the other sights of Cordoba. In fact, you could drop your rental car here and take the AVE into Madrid...it takes about 1:45.
But if you are spending one night on the road driving Granada-Madrid, you could make it Toledo. Day trips are good....but staying overnight after the day-trippers are gone is even better!
As for Sevilla, I'd try for a place in the Barrio Santa Cruz, the former Jewish quarter....steps from the Giralda but nice and quiet.

With the rude risk of butting into this thread...
Is it typically cheaper to fly into Madrid and then take a train to Barcelona or just continue the flight to Barcelona?

Marty...best to post a new question, so you get the e-mail notifications of responses, not the original poster.
That depends on where you're flying from...and whether you can book RENFE tickets ahead of time. Many airlines from North America will offer both destinations separately. And train fares Madrid-Barcelona, run close to $200 pp....but up to 60% off if you book them far in advance.

Thanks Norm. We'll look into that route, sounds interesting.