I think they would have lost the challenge.
I think the knee probably was down, although even the freeze-screen shots I've seen you can't really tell whether his hand is still touching the ball.
Given the situation, I too was surprised they didn't at least take a shot. You never know whether you'll need that time out or that challenge later. If it had been first or second down, save the challenge that early in the game. But for 4 points, I'd do it.
I hate the situation where teams hurry up to try to defeat a challenge. There has to be some way to tweak that rule. Like a team gets at least 20 seconds or something. If the other team runs a play in that 20 seconds, you can still have your challenge, and, if successful, the world gets put back the way it was. I suppose the challenging team might not do this, though, if the subsequent play was in their favor -- like an interception or something. But I don't have a problem with that. If we're going to have replay, we shouldn't let teams defeat it by hurrying up.
If anyone watches hockey, the way they do replay is interesting. Often, they have to wait until the next stopage to do a review, and they don't care. Whatever happened after the reviewed play is a nullity. So if team A shoots the puck and the ref says it hit the post, and team B comes all the way down to the other end and scores, if replay shows that team A actually made the shot and it didn't hit the post, team A gets the goal and team B's goal is wiped out.