Flagging was the proper action. I understand your desire to try to keep something so offensive off of the site, but in that case, the troll was obviously dedicated to keeping it there, so only moderator action could kill it.
Normally, once a post collects six offensive flags, it should be auto-deleted.
In this case, the rollback 'war' is what caused the flags to be considered reverted. This is another reason it's best to just let the content be, as is, and let the system/mods handle it.
For more information on the reverting of spam flags (which applies to Offensive flags, too) due to rolling back, See "Is there any way to remove spam flags" on this FAQ post