UPDATE 4-BA mulls convertible bond to boost balance sheet

* Rules out rights issue at current time, AGM told

* Defends protests on cabin crew pay, says keen to negotiate

* CEO says would not accept less than 53 pct of BA-Iberia

* Pension deficit worse; eyes revised funding plan

* Stock up 1.3 pct, outperforms FTSE 100

(Adds further CEO quotes from AGM, detail)

By John Bowker and Matt Scuffham

LONDON, July 14 (Reuters) - British Airways BAY.L said on Tuesday it was considering launching a convertible bond, not a rights issue, to shore up a balance sheet ravaged by the global aviation sector downturn.

BA Chairman Martin Broughton told shareholders at the group's annual general meeting that the timing was not appropriate for a rights issue, but the airline was looking at other options to improve its balance sheet.

"We are in discussions with our institutional investors, exploring opportunities in the convertible market, which we believe is the best way of increasing our cash reserves," Broughton said.

British Airways also told shareholders it was determined to reach agreement with cabin crew and ground staff over new pay and working conditions, and said merger talks with Spain's Iberia IBLA.MC would continue with hopes of winning a more than 53 percent split of the combined carrier. [ID:nLE402852]

After the meeting, Chief Executive Willie Walsh told reporters the airline was still on track to hit a target of 1 billion pounds in cash by March 2010, down from nearly 1.4 billion in March this year, not including proceeds of a bond.

"Liquidity is an important issue in the current environment. We are focused on cash," Walsh said.

A weekend news report had suggested BA had received support from some of its shareholders for a major rights issue, a move seen by analysts as an absolute last resort. [ID:nLD673849]

Airlines around the world have been suffering from what many consider the worst conditions ever due to falling passenger numbers in the face of global economic turmoil, and traditional carriers have faced intense competition from budget operators.

Budget airline Norwegian Air (NWC.OL) on Tuesday reported higher-than-expected second-quarter net profit. [ID:nLE317868]

OFFENSIVELY EXCESSIVE

British Airways is locked in talks with unions representing cabin crew and ground staff over changes to working conditions -- part of a cost cutting programme that is also intended to shed 3,700 jobs.

Early exchanges at a packed annual meeting near the Houses of Parliament in central London were dominated by the issue, as well as questions on director pay.

A handful of union protesters handed out pamphlets outside the meeting, and held up signs suggesting Walsh be ushered towards the 'departure gate'.

"Director costs are offensively excessive as you try to cut employee costs - many (workers) are on average earnings," one private shareholder said, to applause from the audience.

In response, Broughton said boardroom pay was lower than at other companies, while CEO Willie Walsh said talks with unions had made progress.

"Our sole intent is to negotiate an agreement with trade unions," he said, shrugging off the threat of strike action.

However, one 20-year BA cabin crew veteran said a recent offer by union Unite to accept a pay rise of just 2.6 percent, which was rejected by BA, was the lowest in its history.

"Any other CEO in the history of BA would have accepted it. This is a smash and grab (from the airline)," he told Reuters.

Shares in BA, which have fallen by almost 30 percent this year, were up 1.3 percent at 128 pence at 1300 GMT. The FTSE blue-chip index .FTSE was up 0.6 percent.

On top of BA's trading woes, Broughton said it was clear that deficits in the group's pension schemes would be higher than the 1.74 billion pounds indicated last September.

BA will agree a revised funding plan with pension trustees after a review, Broughton said.

($1=.6147 Pound)

(Writing by Matt Scuffham and Paul Sandle; Editing by Simon Jessop and Elaine Hardcastle)