Or, should I use a thin cutting wheel on my Dremel tool and remove the outer fiberglass, remove and replace the bad foam, glue and/or glass the cut out section? If I go this route, where do I purchase the correct foam?
This might be the better route if the foam is deteroriated. I recently did a similar repair on a windsurf board where the inner core had deteriorated and failed which then lead to the outer sandwich/skin failing. I routed out the deck around the entire soft area, cleaned up the core material, then poured in 8lb density expanding urethane foam from uscomposites.com (this is similar to the stuff you can get in a can at Home Depot, but super strong and MUCH higher quality). Sanded the foam fair then fiberglassed over it. Now the board is solid.
In any case, if a large area of the foam is shot, it's probably better to replace the foam than to just fill the whole void with epoxy (heavy!).