I had a bunch of images in my Xcode project. They were originally added without choosing \"Create Folder References for any added folders\". So I removed the references and
Problem solved! Turns out that blue folder references are fine, but IB will not read them! For anyone else who cares to know, if you have the following:
/iphone-project-dir/images/pic.png
Once you've added them in a blue folder in Xcode (as detailed in link above), you can refer to them in IB as follows:
images/pic.png
In the XIB's XML it will look something like this
images/pic.png
Simple! The only drawback is Interface Builder's WYSIWYG preview does not process these paths!
I found the answer here http://www.iphonedevsdk.com/forum/iphone-sdk-development/6457-xcode-folder-directories.html