The mod would only need to place it's media files in another folder. Many of the core files would be common so this would eliminate any wasteful duplication. The executable would then know where to look. Example, if a hypothetical mod called "A New Mod" existed the user would only need to install from the modders installation program. This would place the shortcut on their desktop. The shortcut would be something like:

"C:\Total War\Medieval II - Total War\Medieval2TW.exe" -mod anewmod

The mod would simply be a collection of the necessary files located in e.g:

C:\Total War\Medieval II - Total War\Mods\anewmod\

So with a collection of shortcuts and folders for each mod in the mod folder, the player could load any number of mods (individually not combined) and still have the vanilla game unaltered on their machine. Really it makes sense, it works, it's not an original idea as it's been done eons before by developers such as Valve and others.

As to applying small mods, such as various tweaking and fixing mods, this is not as impossible as it seems, but it's not very viable either as it relies on many different modders code to co-exist happily.