Nicholas believes the Gunners are far from mounting a title challenge due to their poor dealings in the transfer market.
The North Londoners are running out of time to tie Pierre-Emerick Aubameyang down to a new contract or run the risk of losing him on a free transfer in the summer of 2021.
The Gabon international would join a long list of key players to leave the Emirates Stadium on a free transfer if he is allowed to run down his current contract.
Arsenal have not featured in the Champions League since 2016 and have not been considered as serious title contenders in recent seasons.
Nicholas, a man who played over 150 league matches for Arsenal, has slammed the club’s board for repeating similar mistakes every time.
"I don't think they have an identity problem," the 58-year-old Scot told the Football Show on Sky Sports.
"The reality is for years and years, even under Arsene Wenger, we sold Patrick Vieira, we sold Thierry Henry and most of our big players.”
“There was nothing wrong with change, but we sold them quite young when we weren't perhaps going to get the full benefit of them.”
"We let Aaron Ramsey's contract run down and at the age of 28, we let him leave for nothing. We've had a problem at the top level for a long time.” It goes as far back as David Dein not being present any more.”
"We have a problem identifying the players and then what we did was start paying £30m for Shkodran Mustafi and defenders who have not cut it for Arsenal.”
“We've been buying wrong and the players have realised they're not a threat to the Premier League and the Champions League.”
"The Arsenal hierarchy have got it all wrong. If Aubameyang does go, he'll want to go to a club that can win trophies. It's the same as what Robin van Persie did.”
“Arsenal haven't got an identity problem, they've got a decision-making policy problem, and it has to be sorted at the top end."
