Investing in large, well-established companies may seem like a safe bet. After all, these businesses have survived economic downturns, outcompeted rivals, and generated billions in annual cash flow. Yet, as Mohnish Pabrai astutely observes in Mosaic: Perspectives on Investing, investing in blue-chip giants can be a dangerous trap—one that too many investors fall into.
Pabrai presents a compelling analogy: “Large businesses also have their own extremities. And there is a need to rapidly get data back and forth between the central heart (CEO) and all the extremities (customers and foot soldiers).” Over time, these communication arteries have widened, allowing massive corporations to grow. However, there’s a hidden weakness: “There is, however, an upper limit to the brain’s (senior management) ability to process the myriad of inputs regardless of the size or speed of the arteries.”
This limitation imposes a natural ceiling on most businesses. As companies scale, decision-making becomes more complex, innovation slows, and bureaucracy takes hold. Even the most successful firms find it difficult to sustain their momentum indefinitely.
The Disruptor’s Dilemma
Pabrai also highlights another critical risk facing large companies: disruption. “The most valued business is under constant attack from the marauding invaders who want to unseat it.” This is precisely what Clayton Christensen, in The Innovator’s Dilemma, describes as the disruptive innovation phenomenon—where new technologies and nimble competitors threaten even the most dominant incumbents.
Consider companies like Kodak, Blockbuster, and Nokia. Each was a titan in its industry, yet all fell victim to technological shifts and disruptive challengers. No matter how big a company is, it is never safe from the forces of change.
The Law of Large Numbers
From an investment standpoint, Pabrai’s insight is clear: the larger the company, the harder it is to grow. He formalizes this observation into what he calls Pabrai’s Law of Large Numbers:
“One would be best off never making an investment in any business that generates over $3 billion to $4 billion in annual cash flow and is considered a blue chip.”
Why? Because, as Pabrai warns, these businesses “are very unlikely to be able to endlessly grow cash flow.” Even if a company dominates its market today, its future returns are likely to stagnate. Investors who chase large, successful firms often end up disappointed as their growth slows and their competitive advantages erode.
A Smarter Bet
Pabrai likens investing in these businesses to taking insurance while playing blackjack: “Taking insurance while playing Blackjack seems very logical, but is a sucker’s bet. Investing in the most valuable businesses around is no different.”
In other words, just because something seems safe doesn’t mean it’s a smart choice. The best investments are often found in smaller, underappreciated companies with room to grow—businesses that haven’t yet hit their natural limits.
Final Thoughts
Pabrai’s Law of Large Numbers is a powerful reminder that size alone does not guarantee investment success. While big, well-known companies may seem like safe bets, their ability to generate strong future returns is often constrained.
As investors, we should resist the temptation to chase today’s giants and instead seek out tomorrow’s winners—those businesses that still have plenty of room to run. After all, as history has shown, even the mightiest can fall.
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