I think people more wanted Tekken x Street Fighter, seeing Street Fighter characters moved into a Tekken inspired 3D engine.
But the biggest issue as always is what Capcom believed would happen. Capcom presumably believed that it would make more money from SFxT than a new update to SF4. This isn’t a necessarily wrong belief. New iterations of SF4 would always be a limited market, and it becomes harder to financially justify additional updates and DLC characters as returns diminish. (Notice also the end of SF4, with repurposed SFxT characters and Decapre. Decapre herself was created because they could save money by recycling Cammy’s model.)
A new crossover game entire would at least in theory offer the chance of a wider market, selling to all the SF fans as well as new/curious Tekken fans. Capcom believed their fighting game market had revived, and planned to also push SFxT beside SF4 in competitive ventures. Recycling SF4 assets would reduce costs for this “new” game, while new characters created for SFxT could effectively be sold twice by funneling back as DLC for SF4. A new game would “reset” the DLC market, and Capcom had strong DLC plans for SFxT. Characters, colors, everything. Capcom even attempted selling console exclusive characters to console manufacturers, though only Sony was willing to pay. Then there were the gem DLCs, which were potentially highly profitable low effort productions, particularly if competitive SFxT had boomed with full gem usage as Capcom envisioned.
What killed SFxT was a mix of bad luck and bad decisions. Capcom pushed hard enough on its DLC practices that it triggered backlash. Console exclusive characters angered those who weren’t buying the game on a Sony platform. The announcement of the Vita port getting all the DLC characters for “free” in exchange for coming out a few months later angered those who weren’t buying the Vita version. The DLC characters being pretty much complete on the disc triggered a wider general backlash against on-disc DLC. Some were further angered when they saw others immediately playing said DLC characters through character swap cheats/mods. Fuel was added to the fire with an advertised mode feature being cut from the 360 version at the last minute. And then the other DLC plans were datamined, like additional Quick Combo slots. On top of all of this, there was the deservedly controversial gem system. Despite Capcom’s claim that the game was designed around the gem system, it looked and felt like a shallow and poorly implemented tacked on monetization scheme. At its best, the gem system was seen as a time-wasting nuisance for the tournament scene. At its worst, the gem system was seen as pay-to-win DLC.
The other big issue was Tekken itself. Tekken simply wasn’t well-suited for transition to an SF-inspired 2D engine. It wasn’t an impossible task, but it was guaranteed to cause issues and to disappoint people. But Tekken was the big franchise outside of Mortal Kombat. If Capcom wanted a crossover that wasn’t MK (or Smash), then Tekken was the only real option with the name recognition and popularity Capcom sought.
Honestly, I feel Street Fighter x Mortal Kombat would have been a much better seller. Particularly if Capcom marketed it with the same nostalgia that they used to sell SF4, presenting it as settling/continuing the biggest arcade confrontation of the 90s. My guess is that Capcom did not want SF characters in the hands of Netherrealm for the inevitable MKxSF, where characters like Ryu and Chun-Li would both be delivering and receiving gratuitous fatalities.
SFxT was not guaranteed for failure, though. And it did offer financial possibilities that a new SF4 update didn’t.