Why insure my house for replacement value?

Why insure my house for replacement value?  Last week a neighbor's house caught fire and spread next door to a house I insured.  The policyholder had the option to rebuild on site or take a cash settlement for the market value of the house.  In this instance they decided to take the cash.  While the house may have been insured for $100,000 more than the market value it doesn't mean the property was overinsured.  A survey of houses in the neighborhood may result in a higher value and a higher payout thus reducing the gap between the settlement and the dwelling limit.  After paying the homeowner, the insurance company will need to pay another $20,000 or so toward the demolition of the house.  At the end of the day the policyholder may have more insurance than he needed but no doubt is happy he has more than less.  Wouldn't you?