I've encountered this a couple of times, it usually happens when the Epoc enviroment is not set up correctly. So check the following things:
1 EPOCROOT enviroment variable is set correctly. Should point to the directory that contains the directory epoc32.
2 Path enviroment variable is set up correctly. Should include a reference to %EPOCROOT%epoc32\tools and %EPOCROOT%epoc32\gcc\bin
(or something like that)
Then exit Developer studio, run it again, and see if it works this time.
Incidentally, even with the error you reported, the workspace should still have been created for you. It should be located in (something like)
c:\symbian\6.1\series60\epoc32\build\symbian\series60\<application name>\group\<application name>\wins
On second thoughts, just searching for the .dsw file might be easier !
Double clicking the .dsw should load the workspace correctly, and everything should work OK.