The fee for Declan Rice’s transfer to Arsenal has now been agreed, but the transfer is yet to be finalised. Arsenal and West Ham have agreed on a £100m guaranteed fee with £5m in add-ons. However there is a hold-up due to a lack of agreement on the structure of payment terms.
Throughout the transfer saga, West Ham have been asking for a considerable portion of the fee up front, with reports suggesting that they want the entirety of the fee paid by January 2025, only 18 months away. Arsenal have been willing to pay the fee over 4-5 years and Manchester City’s bid reportedly included a payment schedule structured over a 2 year period.
You may be wondering why West Ham (and Arsenal) seem to care so much about the payment structure. In previous years, journalists didn’t mention payment terms when discussing transfer sagas, so why is it such a talking point now?
The answer is inflation and interest rates.
If someone is offered a pound now, or a pound in a year’s time, they will take the pound now every time. Due to inflation, the general increase in prices of things over time, the value of a pound (i.e. the amount of stuff someone can purchase with it) is lower in the future.
The Consumer Price Index (CPI) measures the year-on-year change in the prices of a representative basket of goods and services. Prior to 2021, CPI was close to zero, so inflation wasn’t such a big consideration for football clubs. In the wake of the COVID pandemic, inflation has sky-rocketed.
That means that the relative value of cash received in the future is a lot less now than the value of cash received in the future was 10 years ago. Let’s look at the Declan Rice transfer as an example. Arsenal want to pay £100m in 5 equal yearly instalments of £20m.
Let’s consider two scenarios: (1) using a 1.5% yearly inflation rate, similar to the environment prior to the COVID pandemic; and (2) using a 4% yearly rate, assuming inflation will average this rate over the next four years. Net present value represents the amount of money that someone would pay today that would be equivalent to the total of all the future payments.
As you’d expect, in both scenarios the NPV is less than £100m since £1 received in the future is less than £1 received today. In scenario (1), Arsenal’s five instalments would have been equivalent to £97.1m, an effective loss of £2.9m – not too bad. In scenario (2), the NPV is £92.6m so the effective loss has increased to £7.4m.
This makes it clear why selling clubs are much less willing to accept payment in instalments now than they were in previous seasons, and why David Sullivan doesn’t appear to be budging.
If Arsenal acquiesce to West Ham’s demands, it is reported that they will have to pay the fee over two instalments by 1 January 2025. Since inflation is likely to be higher in the short term, I have used a higher average inflation rate of 6% for this calculation. In this scenario, the NPV of the payments to West Ham is £95.8m.
Therefore, the difference between the NPV of Arsenal’s proposed payment structure and West Ham’s is around £3m.
A further consideration is that Arsenal simply may not have the liquid cash to pay West Ham £75m up front. In the club’s last financial statements, as at 31 May 2022, Arsenal had £30m ‘Cash at bank and in hand’. In order to provide the cash for the payments, if they are sufficiently large, Arsenal may need to take out a loan, or utilise their £70m credit facility arranged with Barclays bank.
Fortunately, Arsenal are not straddled with high-interest debt as they have been for much of the Emirates era. KSE provided funds to refinance the stadium bonds (loans) in the financial year to 31 May 2021. Arsenal incurred exceptional costs of £32.2m in the process, presumably an early loan settlement fee. While the interest rate on KSE’s loans to Arsenal remains private, it is assumed to be far lower than the rate that would be offered by a bank or other lending institution.
The upshot is that should Arsenal require a cash injection to pay West Ham, they may need to take a loan from KSE or use their Barclays credit facility. Presumably, the interest rate on a loan from KSE would be much lower than the interest rate on the credit facility, so that would be the favourable option for the club.
Since 2022, interest rates have increased rapidly in the UK. The Bank of England, which sets the base rate that other lenders use to determine their own rates, has gone from 0.1% to 5%, and may rise as high as 6.5% by the end of 2023.
For background, interest rates generally rise with inflation, because central banks, whose job it is to maintain inflation at a constant level, use these rates to bring inflation down. Increasing rates reduces inflation because it makes borrowing money very expensive, and incentivises people to save money at higher rates.
These high rates are the reason Arsenal don’t want to pay the money up front. If they have to borrow cash to pay West Ham, they will be paying it back with significant interest. Fortunately, if they borrow the money from KSE, the interest rate should be more favourable than that offered by another lender.
Now consider West Ham’s position: they will need to sign a replacement for Rice and have other business they would like to do this summer. Like Arsenal, and every other club, they’d prefer not to use loans to pay for these transfers since the interest rates will be so high. So it is in their interest to receive as much of the money as possible as cash now to use for their own transfer business.
Evidently, there are myriad factors causing the delay in this transfer saga (not least the fact that David Sullivan and Declan Rice are both currently on holiday) and the current economic environment has introduced financial considerations that would not have been so relevant in previous years. Rising inflation and interest rates create material benefits for Arsenal to pay the cash later and for West Ham to receive the cash now. No doubt they will soon come to a compromise somewhere in the middle.