Answer is C: Connect VM1 and VM2 to a single subnet. By connecting both VM1 and VM2 to the same subnet within an Azure virtual network, you can create an FCI without relying on a DNN or load balancer. D. Connect VM1 and VM2 to different subnets on a single virtual network - doesn’t eliminate the need for a DNN or load balancer. Having different subnets doesn’t directly address the requirement.

To match the on-premises experience for connecting to your availability group listener, deploy your SQL Server VMs to multiple subnets within the same virtual network. Having multiple subnets negates the need for the extra dependency on an Azure Load Balancer, or a distributed network name (DNN) to route your traffic to your listener. https://learn.microsoft.com/en-us/azure/azure-sql/virtual-machines/windows/availability-group-overview?view=azuresql

Check https://learn.microsoft.com/en-us/azure/azure-sql/virtual-machines/windows/failover-cluster-instance-distributed-network-name-dnn-configure?view=azuresql