Hi,
Open your IIS snap-in, browse to the /webapp1 subfolder, right-click it, then go to Properties. In the resulting Properties window, go to the Directory tab and look into the Application Settings section. If you see a Create button, click on it and IIS will convert the subfolder into an application. If you see Remove instead of Create, then you should have no problems as that folder is already an application in IIS.
Cheers!
Marlon
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