Apple wants to encourage people to build ebooks for the iBookstore, and has built a tool that supports that. This tool isn't for everyone. If you want to build free books for the iPad or sell commercial books on the iBookstore and you're not planning on targeting other markets, this is probably one of the simplest ways to get up and running. If you want to support multiple devices and multiple markets and you don't want to do a lot of iPad specific layout work, this tool probably isn't for you.
What It Says
The End-User License Agreement says:
If you charge a fee for any book or other work you generate using this software (a “Work”), you may only sell or distribute such Work through Apple (e.g., through the iBookstore) and such distribution will be subject to a separate agreement with Apple.
B. Distribution of your Work. As a condition of this License and provided you are in compliance with its terms, your Work may be distributed as follows:What That Means
(i) if your Work is provided for free (at no charge), you may distribute the Work by any available means;
(ii) if your Work is provided for a fee (including as part of any subscription-based product or service), you may only distribute the Work through Apple and such distribution is subject to the following limitations and conditions: (a) you will be required to enter into a separate written agreement with Apple (or an Apple affiliate or subsidiary) before any commercial distribution of your Work may take place; and (b) Apple may determine for any reason and in its sole discretion not to select your Work for distribution.
If you build an ebook using iBooks Author, you can only sell it through the iBookstore and you'll have to give Apple a cut. If you are giving it away, these restrictions don't seem to be important. (I'm not a lawyer; don't consider this informed legal advice.)
What It Doesn't Mean
Apple doesn't own your content. You can make an ebook using iBooks Author and through other means, sell the iBooks Author version on the iBookstore and sell the other versions through other stores. Your content is your own, and Apple doesn't own it.
Why Did Apple Do It This Way?
Apple wants people to build ebooks for the iBookstore. They want to remove the barriers to making that happen by providing a free (reduce the cost barrier) tool that is pretty easy to use (reduce the learning curve barrier) to encourage authors and publishers to get onboard.
They don't want you taking their free tool and making money for Amazon, Kobo, Barnes & Noble and Sony by selling your books in their bookstore. If there are barriers to entry in those book stores, Apple doesn't care to solve those. Paul Carr suggests that the restriction may eventually be dropped after Apple has achieved critical mass with iBooks.
Apple may also want to control both authoring tools and the reader application so that they have the opportunity to innovate further on the nature of ebooks, either within a standards-based file format or with proprietary formats yet to come. By building tools for both writing and reading, Apple can lead the way to new features and interactivity for ebooks in a way that would be much harder to do if they were relying on third-parties to build authoring tools for their readers.
There are other business models Apple could have chosen, and authors and publishers also have the choice to use other software for creating e-books. These are all valid choices, and if you don't like the offering that Apple's making then by all means, I encourage you to consider the alternatives.
Why Do People Care?
I think there's a few reasons why people care about this, and why the end-user license agreement has created some controversy.
Some just don't like having their freedom restricted. Once they have software, free or otherwise, they don't want to be told what they can do with it. If they make an ebook with iBooks Author, they want the freedom to be able to sell it on other stores. Dan Wineman makes a case for this argument, calling it Unprecedented Audacity, suggesting that it would be like Microsoft restricting how you can use the documents you create with Word. For these people, it doesn't really matter whether or not using iBooks Author to make a Kindle book really makes any sense -- they just don't like Apple telling them what they can do. I understand this argument, but I believe that Apple providing a no-cost tool with limitations on freedom may be a reasonable tradeoff for some.
Ed Bott's biggest concern seems to be that authors might put a lot of work into an ebook for the iBooks store and that Apple might then reject it, and all that work will be for naught. That's a valid concern, although I'd stop short of calling it "mind-bogglingly greedy and evil". This is the same concern that a software developer faces when developing an app for iOS. In order to allay those concerns, Apple should do their best to establish clear guidelines about possible rejections and to do their best not to make capricious rejections -- the same advice I'd give to Apple about app store reviews.
Some are concerned that these limitations are hidden in the EULA that not everyone is going to read thoroughly. This is the argument I have the most sympathy for, although there is also a warning in the export dialog as well. I can imagine someone putting effort into iBooks Author without realizing the limitations, and that's disappointing. That said, with the current controversy, I would hope that someone interested in iBooks Author would be likely to hear about the limitations of the EULA through whatever news source(s) they consume.
Some just like the look of iBooks Author and wish they could use it in some other way, like to create books for multiple stores. They wish Apple had a different goal with this tool. I understand that sounds appealing, but I also understand that's not really what Apple wants to do here. This is a market that someone like Adobe should be addressing directly. Apple sells a tablet used for reading ebooks and operates a market to sell ebooks, so they'd be in a deep conflict of interest if they had the leading ebook authoring tool for other markets and devices.
Others are (probably) misreading the end-user licence agreement. They believe that Apple is trying to take ownership of the content. I don't believe this is true, even though I'm not a lawyer. Most other people seem to be reading this the same way as I am.
There's no shortage of discussion, if you're interested in reading more (Hacker News, Google Search).
Alternatives Business Models for Apple
There are other approaches Apple could have taken, of course. They could have built a general-purpose eBook authoring tool that would allow people to build ePub documents they could use anywhere. They could have made it the best tool for the iBookstore but not added any other restrictions. If they'd gone that route, they would presumably charge money for the authoring tool. This isn't a terrible path, but it doesn't play to Apple's strengths. It doesn't necessarily encourage more content for the iBookstore, and it potentially puts Apple into the position of their customers wanting them to add features to support things that are only useful in other stores.
They could also have worked with someone like Adobe to build a general purpose tool that works well with the iBookstore. Apple has had issues with this path in the past, and very likely does not want to rely on a third-party to produce a tool that they feel is critical to their platform's adoption.
Alternative Software for Authors
There are lots of ways to create ebooks, and lots of tools that can help you do so.
Apple's iBooks Author is compelling in that it's an easy-to use tool that helps you get from nowhere to a published ebook with rich interactions all in one graphical tool that even authors with limited technical expertise can probably master. But iBooks Author also has limitations on pricing, on where you can sell the book, on what devices you can target. Those limitations mean that iBooks Author is not going to be the right tool for everyone.
Matt Gemmell suggests that after looking at the alternatives, he feels like pandoc is probably the right choice for him. If you're considering authoring an ebook, I encourage you to decide what's the right tool for you. If the right tool is Apple's new iBooks Author, so be it. If you'd rather use bookbin, InDesign, Pages, pandoc, scrivener, sigil or countless other tools to make your ebooks, those are also entirely reasonable choices.
What About the iPhone?
Incidentally, I'm more surprised that iBooks Author only targets the iPad than that it restricts sales to the iBookstore. Apple has built a tool for ebooks and left the iPhone out in the cold. The iPad is definitely a better reading experience, but the iPhone is omnipresent, and I often find myself reading more on the phone than I expected.
Making rich content with complex layout accessible to devices with different screen sizes is obviously tricky, and I imagine this is why Apple has chosen to start with something simpler, but I wonder if we'll ever see a version of iBooks author that addresses this and gives you tools to build ebooks that you can use as readily on the iPhone and the Mac as the iPad.