Windows server backup fails with error "The system cannot find specified file"

I have been having this problem for quite some time. Done a lot of googling and trying recommended fixes and still nothing. I've recreated the backup itself, checked registry keys, ran check disk on all disks involved in the backup and re-created the VHD that the backup uses.

The server is running Windows Server (R) 2008 Enterprise (x86)

The VHD is from a datastore on our vmware host.

The event log details are as follows:

- System

  - Provider

   [ Name]  Microsoft-Windows-Backup
   [ Guid]  {1db28f2e-8f80-4027-8c5a-a11f7f10f62d}
 
   EventID 5
 
   Version 0
 
   Level 2
 
   Task 0
 
   Opcode 0
 
   Keywords 0x4000000000000000
 
  - TimeCreated

   [ SystemTime]  2014-05-02T03:11:43.480Z
 
   EventRecordID 5325
 
   Correlation
 
  - Execution

   [ ProcessID]  14776
   [ ThreadID]  20500
 
   Channel Microsoft-Windows-Backup
 
   Computer neptune.leonsos.local
 
  - Security

   [ UserID]  S-1-5-18
 

- EventData

  BackupTemplateID {B35981E0-C4DE-4D7F-8478-818F80851D49}
  HRESULT 2147942402
  BackupState 12
  BackupTarget neptune 2014_04_23 23:32 DISK_01
  NumOfVolumes 1
  BackupTime 2014-05-02T01:00:08.146Z
  HRESULT 2147942402
  VolumesInfo <VolumeInfo><VolumeInfoItem Name="C:" OriginalAccessPath="C:" State="12" HResult="-2147024894" DetailedHResult="0" PreviousState="9" DataTransferred="12531990528" NumUnreadableBytes="0" TotalSize="60754821120" Flags="2" SSBTotalNoOfFiles="0" SSBTotalSizeOnDisk="0" SSBVhdSize="0"/></VolumeInfo>
  DetailedHRESULT 0
  SourceSnapStartTime 2014-05-02T01:00:08.131Z
  SourceSnapEndTime 2014-05-02T01:00:25.028Z
  PrepareBackupStartTime <TimesList><Time Time="2014-05-02T01:00:27.399Z" /></TimesList>
  PrepareBackupEndTime <TimesList><Time Time="2014-05-02T01:00:28.866Z" /></TimesList>
  BackupWriteStartTime <TimesList><Time Time="2014-05-02T01:00:28.866Z" /></TimesList>
  BackupWriteEndTime <TimesList><Time Time="2014-05-02T03:11:42.341Z" /></TimesList>
  TargetSnapStartTime 1601-01-01T00:00:00.000Z
  TargetSnapEndTime 1601-01-01T00:00:00.000Z
  DVDFormatStartTime <TimesList></TimesList>
  DVDFormatEndTime <TimesList></TimesList>
  MediaVerifyStartTime <TimesList></TimesList>
  MediaVerifyEndTime <TimesList></TimesList>
  BackupPreviousState 9
  ComponentStatus <ComponentStatus></ComponentStatus>
  SSBEnumerateStartTime 1601-01-01T00:00:00.000Z
  SSBEnumerateEndTime 1601-01-01T00:00:00.000Z
  SSBVhdCreationStartTime 1601-01-01T00:00:00.000Z
  SSBVhdCreationEndTime 1601-01-01T00:00:00.000Z
  SSBBackupStartTime 1601-01-01T00:00:00.000Z
  SSBBackupEndTime 1601-01-01T00:00:00.000Z
  SystemStateBackup false