Luke Dennison the hero as Drogheda dump out Derry in FAI Cup
Trio Jamie Stott, Adam Frizzell and Daniel Mullen all missed from the spot, while United's Conor Keeley, Thomas Oluwa and Owen Lambe all fired home from 12 yards.
The defeat will mount serious pressure on Derry boss Tiernan Lynch, as his side's season may fall off a cliff in the run-in.
As for Kevin Doherty's team, they continue to show tremendous spirit and showed great composure in the shoot-out, with young goalkeeper Luke Dennison their hero keeping out Stott and Mullen's spot-kicks.
FT AET: Derry City 1-1 Drogheda United (0-3 pens)
The defending champs return to the quarters in dramatic fashion
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City made two changes from the side which had a disappointing 0-0 draw with Cork City as Alex Bannon and Dipo Akinyemi came in for Hayden Cann and Liam Boyce, who dropped to the bench.
Derry got off to the worst possible start as they conceded after two minutes when Alex Quinn made no mistake from close range, after Joshua Thomas' left wing cut-back found the unmarked defender inside the six yard box.
Drogheda should have doubled their lead minutes later as Thomas broke the offside trap, but he failed to trouble Derry goalkeeper Brian Maher and blasted wide.
Derry's first chance came on 19 minutes but Gavin Whyte's stinging 20-yard strike was straight at United net-minder Dennison.
Derry City 0-1 Drogheda
The visitors go in front thanks to an audacious finish by Andrew Quinn #RTESoccer
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Moments later Akinyemi's 20-yard drive, which dipped quickly, was comfortably tipped over by Dennison.
Just before the break a neat passing move by the Foylesiders ended with Michael Duffy's cross finding Brandon Fleming, but the left-wing back's shot from 20 yards flew well over the bar.
City gaffer Lynch made four changes at once on 58 minutes with Ben Doherty, Ronan Boyce, Mullen and Liam Boyce all coming on for Alex Bannon, Brandon Fleming, Sadou Diallo and Whyte.
The changes seemed to spark the home side into life, but Carl Winchester's close-range shot was turned around the post by Dennison.
The United goalkeeper had to make a smart save on 64 minutes when he did well to tip over Liam Boyce's curling effort, after the ex-Cliftonville man had found space inside the penalty box.
Drogheda were inches away from adding a second five minutes later as Darragh Markey's right wing free-kick found Ryan Brennan at the back post, but United skipper's powerful header was outstandingly kept out by a diving Maher.
73': Derry 1-1 Drogheda
Michael Duffy levels the tie at the Brandwell with a peach of a left footed strike
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Derry equalised on 73 minutes in superb fashion as substitute Mullen raced down the right before cutting the ball back to Duffy on the edge of the box, the winger took a touch and unleashed a stunning left-footed strike past Dennison.
The United keeper had to make a big save early in extra-time when he parried away Mullen's powerful long-range strike.
Derry were forced into a change on 102 minutes as Liam Boyce picked up a bad-looking injury and had to be replaced by Sam Todd.
The home side went close to taking the lead on 106 minutes as Duffy's left-wing centre found Ronan Boyce, but defender's powerful header was tipped over the crossbar by a full-stretched Dennison.
Derry thought they had won the encounter on 114 minutes when Mark Connolly had headed home Ben Doherty's corner but referee Robert Harvey cut his celebrations short and disallowed the goal.
113': Derry 1-1 Drogheda
Mark Connolly thought he had the breakthrough but Derry are denied by the referee's whistle #RTESoccer
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A super Stott cross moments later found Duffy, but his glancing header, which had Dennison beaten, flashed just wide.
Derry had strong claims for a penalty deep into stoppage time in extra-time when Duffy was upended inside the box, referee Harvey waved play-on and to make matters worse for the home side, substitute Ben Doherty was shown a straight red card for taking his protests too far.
Derry City: Maher, O'Reilly, Bannon (Doherty 58), Connolly, Stott, Fleming (R Boyce 58); Diallo (L Boyce 58 - Todd 102), Winchester; Whyte (Mullen 58), Duffy; Akinyemi (Frizzell 92).
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