BOSS OS-2 and it's copies have knob that allows to partially regulate between overdrive and distortion tone. How does it work. Does it have two signal paths internally and mix on the end or just has some adjustable element that makes it more like overdrive or distortion?
By all accounts the OS-2 incorporates two different distortion circuits, and the 'color' knob allows you to adjust the mix between them. If you need more information on circuits, freestompboxes and diystompboxes are good places to look - e.g. http://www.diystompboxes.com/smfforum/index.php?topic=92158.0 talks about the blend in the OS-2.
Looking at the schematic (which can be found here or here) it appears your first assumption is correct. The OS-2 works by splitting the signal into two diffent paths, each with its own way of "clipping". These paths are then combined in a simple mixer and put through an active filter (tone control).
I have a hard time assigning any meaning to your question. A stompbox gets an electronic signal in, manipulates it using electronic circuits, and puts an electronic signal out. In that context, what does it even mean to "just emulate" an effect?
My guess is that the control knob manipulates the behavior/parameters of a single signal path rather than have two separate signal path and a blend-over between them. And, mind you, a single signal path would usually be very much preferable since it leads to a single, consistent result.