The company also admitted negotiations with Saudi Arabia on a new pricing agreement for 72 Typhoons the kingdom bought in 2007 are dragging, further hampering the company's efforts to bolster its export business.
The Emirates' decision, announced Thursday in Abu Dhabi, was all the more damaging because British Prime Minister David Cameron had personally intervened in the drive to sell the Typhoon in the Persian Gulf.
In November, he visited the Emirates and urged Sheik Mohammed bin Zayed al-Nahyan, crown prince of oil-rich Abu Dhabi, the federation's economic powerhouse that handles military procurement, to sign off on the British jet over its main rival, the Rafale multirole fighter produced by France's Dassault Aviation.
"This is a serious setback for BAE as it seeks to reduce its reliance on the U.S. and British defense markets that have been hit by government spending cuts," British aviation analyst Sean Farrell said.
"BAE's search for new sources of revenue has seen it pursue a failed merger with the Airbus owner EADS and launch a major push into pursuing defense markets such as the United Arab Emirates and India."
The Rafale should now be considered the main contender for the Emirates' requirement for as many as 60 combat aircraft to replace the three squadrons of Mirage 2000-9 jets, also manufactured by Dassault, it acquired 20 years ago.
Dassault, and the French government, were themselves upset at failing to secure a $4.5 billion contract with Brazil for 36 frontline aircraft Thursday. It was won by the Gripen built by Saab of Sweden. Boeing's F/A-18 Super Hornet was also beaten out.
The Typhoon hasn't done that well either in the last couple of years. It lost to the Gripen in Switzerland, the F-35 in Japan and, most embarrassing of all, the Rafale in India.
Abu Dhabi could also be angling to purchase Lockheed Martin's stealthy F-35 Joint Strike Fighter even though they may not be available for delivery to Arab allies for five or six years.
The Emirates' air force, one of the most powerful in the gulf region, already includes 54 F-16E Block 60 and 25 F-16F Block 60 strike jets.
There's speculation too that the Emirates' military -- described by a British defense analyst as "incredibly tough negotiators" -- used negotiations with BAE to push Dassault to lower its asking price for the Rafale.
But an Emirates-based diplomatic source familiar with the negotiations said the "two parties were too far apart on commercial terms."
BAE executives had been extremely hopeful of winning the Emirates' contract, which could eventually have increased in value to around $10 billion when training and other services were factored in.
Cameron's office said the talks were "progressing well" after he visited the Dubai Air Show to promote the Typhoon in November and met with the crown prince.
Chief Executive Ian King said in August securing the Abu Dhabi contract could be a "major game changer" for BAE, which builds the Typhoon in a consortium that includes the European aerospace and defense giant EADS and Finmeccanica of Italy.
Cameron succeeded in selling 12 Typhoons, plus eight hawk trainers, to the gulf sultanate of Oman in December 2012, during an earlier regional tour promoting the jet, for $4.04 billion.
BAE also wants to sell the Typhoon to Bahrain and is trying to persuade Saudi Arabia to buy another 72 new-model Typhoons even though Riyadh already is buying 84 Boeing F-15S jets as part of a 2010 U.S. arms package worth $57 billion.
Despite BAE's protracted negotiations with Saudi Arabia over the 2007 Typhoon sale, which have dragged on for nearly three years, the company said Thursday its relations with Riyadh "remain excellent" even though King Abdullah asserted in August he expected to "close this out by the second half of this year."
The so-called Salaam Program included provisions for renegotiation as economic conditions changed and was later expanded to include aircraft upgrades and support programs that would affect the overall pricing of the 2007 deal.
Meantime BAE signed a $3.4 billion deal on training and logistics with the Saudi air force.
Notable deaths of 2014 [PHOTOS]