1. Format the Pendrive or USB drive in NTFS format first.
2. From the start menu right click on the command prompt and select “Run as administrator“.
3. Now type the following commands (Press enter key after each command).
4. diskpart. This is to open the disk partition program.
5. Now to show the list of drives type list disk.
6. You can see disk’s listed there. Note down the disk number of your pendrive eg. Disk .
7. Now type SELECT DISK X (where X is the number you noted down for the pendrive from step 5)
8. Now type CLEAN.
9. Now type the following commands by pressing enter after each one.
10. CREATE PARTITION PRIMARY
11. SELECT PARTITION 1 (Assuming your pendrive/ USB drive is 1).
12. ACTIVE
13. FORMAT FS=NTFS
14. ASSIGN
15. EXIT (Now the disk partition program will exit). Now we need to give some more commands.
16. Now insert the Windows 7 Installation DVD and to your DVD drive.
17. Here i am assuming DVD drive as G and Pendrive as I.(Change it accordingly).
18. Now type G: CD BOOT
19. Now type this command BOOTSECT.EXE / NT60 I: to update your USB drive with bootmgr code.
20. Finally copy all the contents from the Windows 7 DVD to your Pendrive. Make sure you don’t cause any errors.
21. Plug / Insert your pendrive to your PC and restart the system.
22. Now Enter the Bios system accordingly by pressing the Delete key. (This might be sometimes F2 or F12. It depends on the type of your system. Any how during the start up your system will display which key to press to enter the Bios).
23. Now select the USB/ Pendrive as the first boot driver.(Set the first boot priority to USB drive.).
24. Now save the settings in Bios and restart and you will be able to Install Windows 7 using that pendrive.

Credits: http://www.computingunleashed.com/install-windows-7-from-pendrive-how-to.html