The 'entire network (real + virtual)’ needs to be created in NetSim. And then a mapping of real devices to equivalent simulated devices in NetSim would be done through the NetSim UI.

Any external device/Interface and will connect to NetSim emulator via IP mapping

NetSim Emulation server will run on a physical machine. The emulation server will handle emulation (interfacing with real world) and simulation (virtual).

Please see https://tetcos.com/iot-attack-emulation.html where covers an example use case for simulating/emulating attacks by interfacing with real IOT devices

I have been able to set up and run this. Thanks

I had a follow on question - can this be done if the "real network" is actually two different networks and not a single network within a LAN

Yes it can be done. You would need to connect a router from each of the networks to NetSim emulator system. This means the emulator PC should have two NIC Cards.

Do you know if the same system can be set up using VMs instead of physical PCs?

Yes you can. Please see this https://www.researchgate.net/post/How_do_I_run_NetSim_emulation_in_a_VM_to_test_applications_running_in_Vsphere