Hi Mark,
  The sandbox is assigned significantly less resources than production and 
is expected to perform worse than the production environment.  It is 
possible that the production environment would normally be able to handle 
the workload you are currently giving the sandbox, but the sandbox, lacking 
the resources of production, is running into problems completing the job. 
 That it works in smaller batches argues for this explanation.

We recommend breaking your job into smaller pieces in general.  Another 
option is to use the MutateJobService, a much simpler alternative to the 
BulkMutateJobService.  It has the restriction of only 10,000 operations in 
a job, but has significantly less overhead and is our recommended approach 
to performing operations in bulk moving forward.  Eric Koleda presented 
these slides at our v201109 workshop explaining the benefits of this new 
service: 
https://docs.google.com/viewer?a=v&pid=explorer&chrome=true&srcid=0Bxn2aklBAWFiNDZlMjgwMWQtZmNiOS00ZGRiLThkMzktOGQzNDJhN2ZiMzE1&pli=1

- Kevin Winter
AdWords API Team

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