What is financial contingency planning?

Financial contingency planning is the art of planning for broader risk management. This means preparing ahead of time for a potential negative event such as an economic recession, natural disaster, fraudulent activity or a terrorist attack. In finance contingency, managers often use predictive models to mitigate risk, err on the conservative side, or assume slightly ‘worse-than-expected’ outcomes.

Common ways of dealing with contingencies include purchasing insurance policies that will pay out if a particular set of contingencies strike – for example, protecting your earnings if you get sick. Other methods include hedging strategies or asset diversification.

Some financial managers may also recommend that companies set aside significant reserves of cash so that it can benefit from strong liquidity, even in times of poor sales or unexpected expenses. Managers might proactively open credit lines to ensure access to borrowing in less favourable times or recommend contingent assets, which are benefits (rather than losses) that accrue to a company or individual given the resolution of some uncertain event in the future – an example being a lawsuit or an inheritance.

The purpose of contingency planning is to ensure continuity of business operations or financial stability. It can help individuals, families and businesses recover from disaster and can ensure that damage or injury to personnel and property is effectively contained. The main goal of a contingency plan is to restore normal operations at a minimal cost and with the least amount of disruption to normal business activities or lifestyle after an unexpected event has occurred.

Think of ‘contingency’ as ‘Plan B’ – the realisation that your original plan hasn’t worked and that you need to adopt a different approach to managing financial wealth. With a Plan B ready, you can quickly get back in the game with little disruption or stress, and can maintain function long enough for a suitable restoration of your original plan.

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