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A contingency is an event which is unplanned for but is liable to happen in the future. This event is often negative and has the potential to cause problems in the future. Generally, contingencies cannot be predicted with certainty, examples of these events include; natural disaster, terrorist attack, war and insurgency. Oftentimes, countries prepare for contingencies, but the details of the problem of event cannot be predicted with certainty.
Contingency can also occur in finance and accounting. Financial managers with the aid of certain predictive models plan for contingencies in order to reduce its risks.
When contingencies occur, they cause problems that make further plans necessary. One of the key ways to mitigate the effects of contingencies is to picture the worst scenario that could occur in a project, and devise plans to combat its negative outcomes. Purchase of insurance policies is a common way individuals, forms and countries deal with contingencies. In financial investments, contingencies can be addressed through strategies such as stop-loss orders, portfolio diversification, hedging, among others.
A Little More on What is a Contingency
Contingencies that occur in finance are addressed by financial managers who have expertise in identifying contingencies and creating a plan to mitigate the risks. One of the ways companies plan for contingencies is through strong liquidity, the more money a company has in its reserves, the better it is to combat the risks of financial contingencies.
However, having a large amount of cash in a company’s reserve is not the only way to plan for contingencies. In most cases, diverse scenarios of contingencies and their likely impacts are put into consideration before any plan. Hence, financial managers or business professionals draw up different plans for different contingencies.
Contingency Plan Considerations
There are some essential considerations that must be taken into account when planning for contingencies. They are;
- Preparation for backup: if a contingency would affect the database of a company, it is essential to have a backup plan for important data. Contingencies that involve theft or destruction of intellectual property require this consideration.
- Plan for the unforeseen: events like fraud, operational breakdown, theft and cyber crime can occur, they should be planned for accordingly.
- Create an emergency unit to handle contingencies: oftentimes, businesses are advised to have a unit that will outline contingency plans and also address them when they occur.
Benefit of a Contingency Plan
Having a comprehensive plan is crucial for all businesses, whether small or large. A good contingency plan saves a business from total breakdown and also reduce the crippling effect of contingencies. Also, the effects, losses and damages that are likely to occur as a result of contingency can be reduced through a comprehensive plan.
Generally, a contingency plan reduces:
- The risks of disaster
- Operation loss and damage
- Loss of intellectual property
- Reputational damage
Also, through a contingency plan, a company can determine the type of insurance policy to get and the action the business should take in times of contingencies.