There is a tuitorial available on how to make a cupcake cake
check out this website.
basically you arrange the cupcakes in the shape you want, then spread icing over the top of all of them at once. You can decorate any way you want.
Height: Yes it's easier if they are all the same height. If you use a scoop or measuring cup to portion out the batter they should come out pretty much the same size.
Smoothing: whatever technique you would use for a cake. Based on the picture you posted, I'd suggest icing the whole thing white, then adding the colored parts.
Sides: on a cupcake cake the sides of the individual cupcakes do show. You can put a top border on though to make it look more like a cake.
The tutorial will explain a lot and it's really easy to do.
I have a tutorial also:
One suggestion for getting all the cupcakes level is to place a flat cookie sheet on top of the cupcakes after baking (while they are still in the pan) and put something with some weight on top of the cookie sheet, for a few minutes. Sometimes the cupcakes stick a little but just be careful while you are removing the cookie sheet, pulling the stuck ones off one-at-a-time. HTH
Another suggestion is to push the cupcakes as close together as possible when making the design on the board.
Wow! Thank you so much for the information. I am now looking forward to doing this.
Well, if you have dummy cakes you could get a size 6 or 8" and a 10" 12" dummy cake. Cover them with a nice looking gift wrapping paper (so it looks like cake frosting). Place the smaller cake on top of the bigger cake and secure with a little glue or icing. Then place a 5 or 7 cupcakes on the top (or whatever fits) and then place more on the second cake and fit the rest on the bottom.
I used a 6" dc and fit 3 cupcakes (my cupcakes have 2" diameter) on the top then used a 10" dc and fit 9 cupcakes around it and fit on the cake board 12 cupcakes surrounding the bottom part of the dummy cake.
Hope it helps!