Well, it's very easy.
Only '8' in red or blue truly hits Nefarian, and gets placed in it's correlated box. Blue dice that hit (that's only 8's), go into the damage box. Red dice which hits (again, only the 8's) go into the defense box. You can not choose for a blue hit to go into the defense box, or vice versa.
Quote: It never specified any correlation between the damage token and dice colour anywhere.
There I must prove you wrong. If you look on the board, the Combat Area (the 3 circles) show quite clearly that blue dice go into Damage, red and green dice go into Defense. Otherwise, there's also page 29 in the rulebook, under PLACING DICE HITS. It states:
Blue dice: for each blue die producing a hit, place a hit token in the damage box of the Combat area.
Red dice: for each red die producing a hit place a hit token in the defense box of the combat area
Green dice: for blabla hit blabla armour token blabla defense box blablabla.
Off course there are some exceptions...The Hunter has a skillcard which allows him to replace a certain amount of blue hits to go in the defense box (Clipped Wing iirc) and the Ring of Agility (auction house, soulbound item) allows to do the same, but only for 1 hit token. But remember, these are exceptional conditions. You did not mention this in your post, so let's presume you do not have access to these 2 possibilities. I just mention this to be complete in the overall answer.
Blue dice represent direct damage, like arrows or fireball spells. It is very difficult to form an effective shield with something as flimsy as an arrow.
Red dice are comparable to melee damage, the damage you deal using the fine art of sticking the pointy end of a sword into the squichy bits. As with every hand-to-hand weapon, the sturdyness of these tools also allow you to parry damaging blows from your enemy, thus reducing the damage you need to soak up.
Green dice are your armour, with a pretty straightforward -and singleminded- use.
Now the problem with Nefarian is this: He's a dragon. As you might know, these magnificent creatures tend to feast on the succulent flesh of all sorts of adventurers and pompous knights. Most of the time, there is only one tricky bit for a dragon. These fools come barging in, clad in armour and loaded with gems, gold and whatnots. You might have noticed also that dragons don't have opposable thumbs, which makes the use of a can-opener close to impossible. This means chomping off large pieces, with armour and goldcoins included. And thus, little by little, the ground of their lair accumulates all thess metal tidbits picked out from their teeth, on which they then fall asleep. Over time, theses metal chunks get interlinked with their scales, in fact hardening their already pretty decent natural armour. Nefarian is comparable to a dragon emperor, who has had already many tons of adventurers' flesh going through his gastro-intestinal tract. His natural armour has had just as many upgrades
So, to go back to your example:
B: 7,7,8: The 8 produces a hit, it goes to the damage box, while the 7's can't reach the squichy bits directly, so they bleed into attrition.
R: 7,7,7: There are no 8's, so nothing goes in the defense box, everything bleeds into the attrition box.
G: 7,7,8: Nefarians power does not target armour results, so you can put these 3 as armour tokens into the defense box.
This would give the following result:
Damage: 1 hit token
Defense : 0 hit tokens, 3 armour tokens
Attrition: 5 hit tokens from 7's, and 2 hits from the +3 attrition halved & rounded up
So, if you would be playing against the weak Nefarian, who has an attack of 12, you would need to soak up succesfully 9 damage. If you survive this onslaught, then you put the hit tokens who are in the attrition box into the damage box, giving you a grand total of eight hits in the damage box. Congratulations, now you only need to do 18 more damage before Nefarian dies.
So yes, your friend was right...
Anyhow, happy hunting!