Images have to be embedded into the Word file using web-compatible file formats such as GIF, JPEG or PNG. There is some more documentation on handling figures on a new Moodle document page I just added at How to prepare a Word file for import into a Book.
I don't know of any plugin that allows book chapters and sections to be re-organised. It would probably need to work a bit like the Categories page on the course Question bank, I imagine.