The deal's announcement comes in the wake of a call by UK MPs to halt arms sales to Saudi Arabia pending investigation of human rights abuses
BAE Systems is in discussions with Saudi Arabia over a multi-billion pound arms contract, according to an announcement on Thursday.
The deal is likely to be controversial, taking place against a backdrop of a Saudi-led military campaign against Houthi rebels in Yemen which has been accused of helping to create a humanitarian disaster in the impoverished country.
"Discussions between BAE Systems, the UK government and the Saudi Arabian government are progressing to define the scope and terms of the next five-year Saudi-British Defence Co-operation Programme," BAE told the Stock Exchange on Thursday.
British MPs last month called for an arms ban to be imposed on Saudi Arabia pending an investigation of alleged war crimes and human rights abuses in Yemen. The UK sold military equipment worth £3.3bn to Saudi Arabia during the first year of the conflict.
The parliamentary foreign affairs select committee said that Foreign Secretary Boris Johnson had "questions to answer" over the Arab kingdom's use of weapons, including the prohibited cluster bombs, in attacks which had in many cases struck hospitals and other civilian infrastructure.
More than 10,000 people - most of them civilians - have been killed in Yemen since the Saudi-led coalition intervened in support of President Abd Rabbuh Mansour Hadi's government, the United Nations says.
Another report by the select committee accused the Foreign Office of actively trying to block investigations into arms sales to the Saudis, warning that the government was deliberately “preventing public scrutiny” of its practices.
“The government points to its robust licensing regime as evidence that its arms export practices are responsible," said the report.
“However, by failing to provide persuasive evidence to support this statement or to respond to reports of breaches of international humanitarian law, the government is preventing public scrutiny of its practices."
Britain has long been a major suppliers of defence equipment to Saudi Arabia.
The Al-Yamamah deal conducted between BAE and the Kingdom in the 80s - worth more than £40bn, according to former BAE chief executive Mike Turner - was credited having saved the company from financial crisis.
However, the deal was highly controversial and in 2010 BAE pleaded guilty to a United States court of charges of false accounting and making misleading statements in connection with the deal.
Both sides in the conflict have been accused of war crimes, including the indiscriminate targeting of civilians.
Cross-border rebel shelling from Yemen killed one person and wounded a mother and child in southern Saudi Arabia on Friday, the kingdom's civil defence said.
The victims of the 7am shelling by Houthi rebels in the Jazan region were all Yemeni residents of the kingdom, spokesman Yahya al-Qahtani said.
Cross-border fire and skirmishes have killed more than 100 civilians and Saudi soldiers in the kingdom since the Saudi-led coalition began launching air strikes in March last year.