You can read the full background at the Eucalyptus' blog, but the short version is this: Eucalyptus doesn't contain any books; it's just an application that retrieves classic books from Project Gutenberg and presents them in a nice way on the iPhone.
So, which book from Project Gutenberg, which collects public domain books, mostly well-known classics, did bother Apple so much as to reject Eucalyptus from the app store? The Kama Sutra.
Yes, Apple, youngsters all around the world will irreparably spoil their little minds by firing up an application that helps you find and read classic literature on their iPhone, and then proceed to lustily devour the contents of the Kama Sutra. Oh, the horror!
Or, they'll just fire up Google and type "porn".
Add to that the fact that Kama Sutra can easily be obtained on the iPhone through, well, Google (on Safari), or in a dozen other ways, and you've got yourself one very dumb reason to reject an application such as Eucalyptus.