China's recent proposal to curtail foreign investments isn't the only threat that global firms face in the mainland. While Beijing fiddles with its regulatory framework, a huge segment of lower-end—but acceptable—products, priced at unbeatable prices, is emerging. This "good-enough" market erases the idea that companies can simply use China as a source of low-cost manufacturing, or to sell premium products to China's increasingly affluent consumers.

Chinese companies are quickly mastering this game. In many industries, such as consumer goods, construction and telecom equipment, mainland firms have already survived multiple domestic consolidations and firmly established themselves in the good-enough market segment. Often, unsuspecting multinationals don't even notice the threat until it's too late.

Take Haier Group, a $12.8 billion white-goods maker built through the merger of three Chinese appliance makers and consolidation of 18 bankrupt state-owned factories in the 1990s. After securing its home market with products of adequate quality, the Qingdao-based Haier engaged in contract manufacturing for major Western retailers—and learned the business along the way. Today, Haier's operations extend to the U.S. and Europe. Its expansion has contributed to a world-wide price drop of 8% to 12% for low- to mid-end refrigerators—a boon for consumers, but devastating to Haier's traditional competitors, such as Maytag.

Not all foreign companies will be able to compete in this segment. The key question to consider is how diving into a good-enough market will affect—or possibly cannibalize—a foreign company's premium brand in China. Are there potential spillover effects beyond China? Is the profit pool in this segment worth it? Is there a differentiated positioning in this segment? Will the multinational be able to get its cost structure low enough to truly compete? And to what extent will the premium and good-enough markets for the product converge over time?

These questions may be daunting for foreign competitors who are just now mastering the Chinese marketplace. It's especially threatening when the product enters Western markets through an aggressive, low-cost channel like a big-box retailer. Countering this danger requires beating Chinese companies at their own game. But given China's size, there's an added bonus to getting it right: those who succeed in China can export this model to other emerging markets.

The problem is the only way to succeed is to lower costs aggressively. Large corporations with diverse cash flows, such as General Electric, can afford this tack. Its subsidiary, GE Medical, introduced a low-cost range of Magnetic Resonance Imaging equipment in hospitals in China's remote and financially weak second- and third-tier cities in the past couple of years. Why? GE understood that the fast-growing MRI market had customers whose purchasing criteria were not likely to change in the near term, reducing the risk of cannibalizing the company's own premium segment. GE Medical's cost structure, thanks to the size of its parent, meant that the company could offer competitive product pricing and accept lower margins.

It's still too early to tell how GE Medical's strategy will pan out; the company is still developing the right product portfolio and addressing such issues as how to best service the equipment. But there are positive signs. Since entering the good-enough MRI market, GE Medical has captured a 51.5% share of the $238 million Chinese market. The company generated roughly $122.2 million in sales in 2004, more than twice the next largest player. By taking early action, GE Medical can aggressively defend its position against local upstarts like Mindray, Wandong and Anke—competing with medical-equipment products priced at about half of what multinationals can offer. And GE has taken this strategy to other developing countries, too, such as India.

China's good enough segment is a large—and growing—market. As Haier's experience shows, domestic Chinese companies are readying themselves to compete in these markets, and they're willing to do so at cut-rate earnings margins. That means that today, companies like GE Medical target the good-enough segment not only to defend scale advantages against fast-moving global competitors, but also against local "no-name" Chinese players. Multinationals who want to compete effectively in China, take note.

Ms. Gadiesh is chairman of Bain & Company. Mr. Vestring, a partner based in Singapore, heads the firm's Asia-Pacific industrial practice.