it is possible to attach BLOB storage as a virtual hard disk to this VM
As far as I know, the VHD file uploaded as a Page Blob to Azure Blob Storage could be mounted and attached to a VM. For how to attach a data disk to a windows VM, you could refer to this official tutorial.
is it possible to copy data from BLOB storage to Azure File service using Azure Data factory
From data movement activities section in Introduction to Azure Data Factory, we could find that Data Factory doesn't support Azure File Storage by default. In order to copy data from Blob Storage to Azure File service via Data Factory, you need to use a custom activity. For more details, you could refer to Use custom activities in an Azure Data Factory.
OR should I keep data in Azure File Service itself so that this software can access data directly without copy operation?
In my opinion, it's an ideal approach for you to keep your data in Azure File Storage. In this way, your VM could connect to the file share and then it could read and write files just like it would against an on-premise file share.
As you said that your files are stored in Azure Blob Storage, I recommend that you could follow the steps below to achieve it:
1.Copy from blob to file share via AzCopy
AzCopy /Source:https://myaccount1.blob.core.windows.net/mycontainer/ /Dest:https://myaccount2.file.core.windows.net/myfileshare/ /SourceKey:key1 /DestKey:key2 /S
For more details, you could refer to the official tutorial.
2.Map Azure File Share Drive on windows VM
net use z: \\<your-storage-account-name>.file.core.windows.net\<file-share-name> /u:<your-storage-account-name> <your-storage-account-key>
Note: For mapping a network drive from Azure File Share, the file share is available to VMs in the same region as the storage account. For more details, you could refer to Introducing Microsoft Azure File Service.