In sports some people believe that there is a Sports Illustrated cover jinx: teams or individual athletes featured on the cover for outstanding performance, subsequently have a bad season. One explanation for this phenomenon is regression to the mean. The prior year’s performance, which earned the cover spot, is based on a combination of skill and luck. The skill persists to the next period but the luck does not (and in fact is just as likely to turn into “bad luck”). So being featured on the cover selects for having had extra luck which is not replicable.

In business the equivalent is building an extravagant headquarters building. Companies are especially likely to engage in that after they have had a number of great years. Those years of course tend to be the result of a combination of company capabilities and favorable circumstances. While the capabilities persist the circumstances are likely to change. I don’t know if anyone has attempted a rigorous study of this, but here is a list from 2009 of companies that all built lavish new headquarters just before their performance declined dramatically.

Regression to the mean is incredibly widespread. Whenever you look at a performance record, especially one that’s an outlier, you should consider the possibility. That’s of course true also for startup performance and is yet another reason why paying extended prices for companies that appear to be network effect winners in their category can end poorly.