Resolution: to fix the problem do the following steps:

1. Click Utilities
2. Click Update Navigation Index

The report will be regenerated and your problem should be solved.

I know the data was there for I could see the red box [representing an un-loaded image] and I could copy and paste the actual data in to a separate application like Microsoft Word [copying the image allowed me to see the whole file].

So as always I did some digging online and found a solution:

1. Locate the Outlook Temporary Items folder by opening the Registry and finding HKEY_CURRENT_USER\Software\Microsoft\Office\11.0\Outlook\Security. Double click on the OutlookSecureTempFolder key.

2. Right click the Value Data field and select Copy. It should be in the form of %USERPROFILE%\Local Settings\Temporary Internet Files\OLK6 where OLK6 is some randomly generated string that always starts with OLK.

3. Open Windows Explorer, paste in the Address field and press Enter (or select GO). You will be navigated to this folder.

4. Select All the files in this folder and Delete.

5. Launch Outlook. The images should now appear in the Email.

That fixed my problem.