I am not sure if I understood your specific problem, but I did find a few issues in your code.
1) I think what is causing the unwanted space between the menu items is a markup error caused by an extra <ul></ul> block in the drop menu code, this is most likely caused by an extra wrapper call for sub-sub-menus:
<ul>
<li>
<a href="/55">
<img src="web-design-img/Web Design Subpage-o.gif" alt="Web Design Subpage" name="Web Design Subpage" border="0"></a><br>
<ul>
</ul>
</li>
<li><a href="/test" title="Test 2">Test 2</a></li>
</ul>
</li>
2) In the sub menu you have an extra <div>. You can either remove it from the outertpl chunk or from the template:
<div class="subpage-menu">
<div class="subpage-menu">
<a href="/55" title="Web Design Subpage" class="subpage-menu-button-over">Web Design Subpage</a>
<a href="/test" title="Test 2" class="subpage-menu-button">Test 2</a>
</div>
</div>
3) I noticed that you are using javascript to control the image rollover (i would recommend using a pure css method, but this could be some extra work). If you want to have the button selected you could just do a simple call to the on state of the button in the heretpl, no need for the js.
By the way, it always helps to point out the browser that you are using since there are many IE css issues that need special treatment.
I am on Firefox on MacOSX.