It's not the number of files in a single folder, because I just reorganized them all into separate folders, so there are no files in the root directory, and each folder has no more than 30 files in it, and it still reads well under 400 files.
I think it may have to do with the file which the reader writes to the memory card under the Sony/Cache folder.
I'm going to look into combining the songs into longer, CD-length single files (since playback is sequential anyway).
I'll try that and see how many songs I can fit on the Reader and be able to play them.
I'll keep you all posted.
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