It’s Ralph’s world…

Ralph Lauren was doing reconnaissance, lingering outside one of his stores watching customers. On this crisp fall Saturday afternoon a few years ago, he had driven one of his vintage cars from his estate in Katonah, N.Y., through the leafy back roads of Westchester County to the nearby town of New Canaan, Conn. At the store Lauren made an observation that would add a new chapter to his legacy. The mothers were leaving with shopping bags, he noticed, but the daughters were exiting either empty-handed or with just a shirt for their dad or boyfriend. As Lauren stared at this demographic segment that had evaded his $4 billion fashion empire, he had a feeling that reminded him of the character played by Steve McQueen in The Thomas Crown Affair.

In that 1968 movie, McQueen portrays a polo-playing Boston Brahmin who is no longer challenged by running his conglomerate, so he masterminds the perfect bank heist. Lauren loves the line that comes after Crown has spent the day on Cape Cod putting a dune buggy through its paces (and the night with Faye Dunaway’s character). As Crown enjoys a cigar, he bets his love interest that he can’t be caught. “I did it once. I can do it again,” he says.

So Lauren was inspired to develop a completely new brand of clothing, named Rugby, to be sold through its own retail spaces, which look like a combination of Hogwarts and a Harvard final club. “I felt we were not connecting as much to young people from 14 to 29, so I created Rugby, which is more irreverent and schoolboy in feel than Polo,” he told FORTUNE. Lauren quietly opened the first Rugby store in 2004 on Boston’s Newbury Street, stocked with an inventory whose connection with him is betrayed only by the initials RL (price for the basic Rugby shirt: $68). Rather than heavily advertise the nascent brand, Lauren let word of mouth build it. Nine stores have been opened in places ranging from Palo Alto to New York City’s Greenwich Village, with several more coming.

This is classic Ralph Lauren. Not just the clothes, but the man. Anyone who assumed the Polo founder was a one-trick pony, a billionaire satisfied to license away his famous name and retire to his string of estates from Telluride, Colo., to Round Hill, Jamaica, doesn’t know what makes Ralph run. At 67, after 40 years in business, he is just getting started with his latest plan: making his name into an immortal brand, known to billions around the world.

In February, J.C. Penney will debut American Living, a new, moderately priced apparel and home-furnishings line that Lauren’s company has created for the resurgent department store chain. Simultaneously, Polo Ralph Lauren Corp., as his company is called, has been going further upscale and farther afield, evolving its business model from a domestic apparel maker to a global luxury brand with the hope of seeing a third of its business come from Asia and another third from Europe in the next decade (double its current positions). Launching a line for J.C. Penney while opening luxurious flagship stores in Tokyo and Moscow could create an identity crisis for even the most seasoned marketer. But Lauren’s gift is his ability to invite consumers into his aspirational world, whether they enter it through a $14,000 alligator handbag named after his wife, Ricky, or a Chaps polo shirt ($19.75 at your local Kohl’s department store).

“Polo has taken an unusual path to luxury,” says Liz Dunn, a retail analyst at Thomas Weisel Partners. “They didn’t start with $3,000 ball gowns. Most luxury-goods companies start at the high end, and then they filter their brand downstream and do diffusion lines, which they look at as a necessary evil. But Ralph Lauren strives to be excellent at every price point. They are maniacal in their focus on every category.”

Maniacal focus has had a lot to do with Lauren’s ability to control his own destiny at a scale where other famous designers have faltered. Polo Ralph Lauren has $4 billion in revenue and a market cap of over $8 billion. With more than 14,000 employees and stores in 65 countries, Polo is bigger than household names like Tiffany and Saks. Among the great designers—American heavyweight division—he is the last man standing. Calvin Klein cashed out in 2003, and Tommy Hilfiger is now private equity’s captive. When Lauren (pronounced like Lauren Bacall, not like Sophia Loren) looks in the mirror, however, he doesn’t see merely a designer. He sees himself as a visionary who hopes to leave behind an iconic American company as his legacy. In one of several interviews for this story, Lauren explained to FORTUNE what drives him these days: “Bill Paley had a vision for CBS. He had clarity. He had a dream. He had talent. He had a focus, and he believed in that vision, and his company ended up having longevity.”

At first, it sounds like braggadocio. William S. Paley … Ralph Lauren? (Come on, “Lauren” isn’t even his real name.) But in his own way, Ralph Lauren (the former Ralph Lifshitz from the Bronx) has created as sterling an American brand as the Tiffany Network. His ad campaigns promise entrée to a primetime lineup of tycoons, debutantes, cowboys, and big-game hunters. The price of admission? Just buy his clothes.

Being added to the S&P 500 index, as Polo’s stock was last February, would have been a stretch a decade ago. Back in 1997 the newly public company (ticker symbol: RL) was reeling from a double whammy. The Ralph Lauren name and the pony logo were appearing on too much low-end product, debasing the company’s cachet. (Ralph would later describe this moment to a colleague as a time when Polo was “resting on its Laurens.”) The stock was in the doldrums too. So the designer went out and hired a murderer’s row of fashion and finance executives, who helped him transform Polo Ralph Lauren from a company that relied on licensing, department store sales, and factory outlets to one with a growing luxury retail business. And the story of how they evolved the company’s business model while rebuilding its brand is an instructive tale for anyone who seeks to profit at the intersection of art and commerce.

The secret of Ralph Lauren’s success is his unique skill set. To call Lauren a designer would be only partly accurate, for he also thinks like a brand manager, a merchant, and a customer. He doesn’t sketch and never attended fashion school. Instead, when he “designs,” he acts more like a filmmaker. He sees the movie for his collections in his head, and he tells his design team the narrative for which they’re expected to create costumes. As he talks about the French Riviera in the Roaring ’20s (or the way the leather strap looks on the hood of a vintage car), a team of artists will be drawing silhouettes and his fabric team will be thinking about materials. Next he is presented with a “rig,” a concept board that captures the spirit for a specific collection. The rig for his women’s fall 2005 couture show, for example, featured a photo of Amelia Earhart, a silver beaded pillow, and a photo of the grille of his 1929 Blower Bentley. As the seamstresses and tailors transformed these deco touchstones into gowns, Lauren tweaked them until the final result looked like the way he would have costumed The Aviator.

He is fascinated by items with a heritage, adopting their durability as part of his fashion DNA. “I never wanted to be in fashion, because if you’re in, one day you can be out,” he says of his aesthetic, while sitting in a chair made of buttery leather and sleek carbon fiber whose design was inspired by one of his cars (specifically the 1996 McLaren F1, which was the fastest car in the world until it was surpassed by the Bugatti Veyron; Lauren has one of those too). The setting is his wood-paneled office six floors above Madison Avenue, where his lifestyle and his products merge with little deviation. A version of the desk in his office—a glass planning table supported by two stainless-steel sawhorses—can be purchased for $16,000 in his furniture collection. (Called the Highbridge, it’s featured on polo.com.) Lauren’s office is part of a three-floor complex designed to evoke a gentlemen’s club. Visitors wait in the Reading Room amid Beaux Arts oil paintings, Persian rugs, and crackly leather sofas.

As a self-described “ambassador” from a country that believes in upward mobility, he is exporting an aspirational dream. The son of an artist who made ends meet as a house painter, Lauren has never failed by trusting his taste and his street smarts. He makes it a selling point that he’s his own best customer, that the look is authentic because it’s what Ralph wants for himself. Sometimes his design process for his men’s wear collections is as simple as “I want some suits with a sharper silhouette.” As a result, his lines have expanded as his interests (and his family) have. He launched his first collection for women in 1972 when his wife, Ricky, was having a hard time finding the sort of clothes that Diane Keaton would later popularize in Annie Hall. “What Ralph felt was missing from the women’s market at the time was men’s wear for women. So Ralph’s idea was to use the same two-ply broadcloth shirt fabrics and Harris tweeds that we used for our men’s wear,” remembers Buffy Birrittella, Lauren’s executive vice president of women’s design and advertising. Lauren’s clothing line for boys started in 1976 when Ricky couldn’t find anything for their two young sons to wear that wasn’t polyester. The launch of Purple Label in 1994 was his attempt to create an American alternative to Armani’s power suit by drawing on classic Savile Row styling. “He is often creating the idealized version of the suit that Cary Grant wore in a movie,” says Jeff Madoff, a director who has worked with Lauren for the past 24 years on various projects.

These days Lauren has more labels than Johnnie Walker has Scotches. But he is not content merely to dress every member of your family. He wants people to sleep in his sheets, dry themselves with his towels, splash his paint on their walls, and then curl up in his furniture. There are a few categories he still hasn’t licked: Jeans is one of them, which is a thorn in the side of America’s Designer. He also feels there is a large untapped market of consumers who are yearning for good taste, moderately priced. The department store is his vehicle to reach them.

The American Living line for J.C. Penney will debut in 600 stores this February, eventually rolling out to all 1,048. It will comprise 50 merchandise categories, from apparel to home furnishings. Lauren’s name won’t be on the items, though word will surely get around that it’s his merchandise at a congenial price. “After I went public, I was thinking about how to grow the company, and it occurred to me that there was a world that I neglected, a kind of customer who has taste and who has gone to college. Someone who says, ‘I want good things, but I can’t spend that money,'” says Lauren. American Living will feel familiar to a customer of the Ralph Lauren Home Collection. Imagine a version of a cashmere throw reworked in cotton, and you get an idea of how the two will relate to each other.

The deal for American Living came to life when Myron E. Ullman III left Polo’s board to become Penney’s CEO in 2004. At the time, Lauren and Ullman began discussing how the department store landscape was changing—or as Ullman puts it, “Recently there’s been a proliferation of specialty stores, so at Penney’s our growth initiatives are all about being differentiated.” The Penney deal is the first product of an incubator group within Polo Ralph Lauren called Global Brand Concepts, whose mission is to create unique new businesses that can leverage the company’s expertise as designers and marketers without diluting the flagship brand. “What’s fascinating about the J.C. Penney deal is that many companies create growth by going out and buying businesses. But Polo is creating growth by creating new brands,” says Marvin Traub, the former CEO of Bloomingdale’s, who now runs his own consulting firm. “And I’m sure American Living will be a multibillion-dollar business.”

Lauren hates it when his vision is misunderstood. And when he first took his company public, he felt Wall Street didn’t get his story. On June 12, 1997, when he arrived at the New York Stock Exchange to ring the opening bell for his IPO, he seemed uncomfortable. He would become even more so as the stock dropped from $33 per share to $16 by Christmas, after the company missed some earnings estimates. Even though his investment bankers at Goldman Sachs (which had earlier bought 28.5% of the firm for $135 million) were telling him to just execute his vision and ignore the stock price, he felt helpless. Debt was mounting. In 1998, Polo tried to expand by buying Club Monaco, a 100-store chain that sold designer-inspired clothing, for $52 million in cash. As part of the transaction, Polo also assumed roughly $35 million of the company’s debt. (Polo Ralph Lauren still owns Club Monaco; Goldman sold the majority of its stake in Polo Ralph Lauren through a secondary offering in 2004.)

By 2000, with the stock still in the teens, Lauren knew he had to make some changes if he wanted to build a lasting, stable business. “For 30 years I had run a very successful private company. We went public at a very high number; then the market changed. And I was in a new game. It was in a world I didn’t know,” he says. “I could control everything else I did. I could work hard. I could run the company, and I had a good team, but they weren’t Wall Street savvy.” His anxiety even got him thinking that the banker boys who snapped up his Purple Label suits would soon move on. “You know how these guys think: ‘I heard Ralph Lauren’s stock is down. I don’t need that guy’s suit.'”

That year he hired Roger Farah as his president and COO. Farah, whom Lauren would later call his “arms and legs,” had been chairman of Venator Group (the company that eventually became Footlocker). There he oversaw a difficult restructuring that involved shutting down Woolworth. “Back then, Ralph had fantastic products, but what the company lacked was the operating infrastructure and the disciplines that were necessary to really develop the global vision,” says Farah. Distribution, supply-chain strategies, and technology were some of the unglamorous but necessary areas of the business that Farah first set about upgrading. Together, the two men came up with a plan to wean the company from its dependence on licenses for its core apparel brands and grow its retail business.

Licenses are a devil’s bargain for most fashion designers. When companies are young, they are an almost magical way to expand the reach of a brand while generating revenue. In a traditional licensing deal, a designer will assign the use of his trademark to a third party that will manufacture and sell the designer’s product and then pay him a royalty. A license can cover a category, like eyewear, or a geographic territory. The downside of licenses is that the designer gives up a degree of quality control. (Last spring Polo bought back its main Japanese apparel license for a net purchase price of $155 million.) With Farah onboard, the company also pulled back the Ralph Lauren name to make it more valuable—for example, removing his name from the Chaps brand and placing Polo Ralph Lauren’s upscale labels in fewer but more profitable department stores.

Even the Polo pony got a makeover. In 2005, when Lauren became the official apparel sponsor for the U.S. Open tennis tournament, he unveiled the Big Pony, an oversize version of his traditional polo player logo. The genesis of the design was practical: He wanted it to be visible to TV viewers as they watched ball boys in action, but he also was unsure how it would play as a fashion statement, joking to colleagues that it might end up being called the Big Mistake. However, the limited-edition shirt sold out and brought some luster back to the small-pony polo shirts, whose sales enjoyed an uptick.

Overall, Lauren’s changes to his business model have been working. Since 2002 the company’s net income has grown from $172.5 million to $400.9 million (for fiscal 2007). And during that time licensing went from generating 46% of Polo’s operating income down to 17%. Meanwhile, the company grew its retail business from 4% to 26% of its operating income, in part by opening costly owned-and-operated stores around the world, in cities including London, Paris, and Milan. The strategy for long-term growth, however, has not been without some short-term hiccups. The company recently missed its earnings estimates for the first quarter of fiscal 2008. Still, the stock remains a buy in most analysts’ estimation.

Perhaps that’s because his quiet relentlessness has become part of the legend. (“If he’d been a bigger guy, he could have played quarterback for the New York Giants,” says Ron Frasch, president and chief merchandising officer of Saks Fifth Avenue.) Other fashion executives agree. When Dawn Mello was president of Bergdorf Goodman in 1985, she recalls that the third floor of the store was divided among Calvin Klein, Donna Karan, and the fur department. At that point, Lauren’s merchandise was in Siberia: on the second floor, beneath the down escalator, and subdivided by an aisle. “I was sitting in my office, and my assistant said, ‘Ralph Lauren is outside, and he wants to see you.’ So he came in and sat down, and in a soft-spoken voice he said, ‘Ms. Mello, have you walked through my space?’ He asked me that question four different times and four different ways, and then, never directly asking that I change his boutique, he finished our conversation by saying, ‘Thank you for agreeing to walk through my space.'” A few weeks later the fur department was moved, and Lauren joined Klein and Karan on the fashionable third floor.

LAUREN THE MAN IS A BIT OF A paradox. He may enjoy living on the patrician side of the street—especially now that his holdings in the company are worth more than $3.4 billion—but he is not embarrassed about where he came from. On a Kodachrome-worthy Saturday afternoon this summer, he was shooting hoops on his 285-acre Katonah estate—not playing croquet as you might imagine. Frank Sinatra’s version of “I Got Plenty of Nothing” echoed from speakers hidden behind rocks. He had arrived late Friday night from his New York City office. While he slept in, the gardeners kept busy removing the deer barricades from around the flowerbeds, so that the vista from Lauren’s bedroom window would be aesthetically pleasing when he woke up—a tiny detail in a perfectly art-directed existence.

When Lauren bought this house in 1988, it was a white elephant that Robert Ludlow Fowler Jr., a banker turned landscape architect, had built in the 1920s. Polo’s creative team descended and transformed it into their boss’s Platonic ideal of aristocratic country life, down to the first-edition books in the library and the Wellie boots in the mudroom. The stables have become a climate-controlled garage for cars from his extensive collection. Today the Matchbox assortment features a 1955 Mercedes 300SL Gull Wing Coupe and a 1965 Aston Martin DB5 Volante (James Bond’s ride in Goldfinger). But Lauren maintains he’s “no Richie Rich.”

In fact, his moves on the basketball court are straight out of a Bronx schoolyard—scrappy. The chitchat is not about horse breeding but about bygone New York City haberdashers—Roland Meledandri, who made the tux Lauren got married in and was an early supporter of his tie business. Or Morty Sills, tailor to the CEOs, made famous in Wall Street (Michael Douglas to Charlie Sheen: “Go to Morty Sills. Tell him I sent you”), who never gave young Ralph a discount. Lauren’s body is still trim—the product of working out four times a week, eating well, and drinking seldom. (He fully recovered from an operation in 1987 to remove a benign brain tumor.) And as he hits a shot from outside the key, he says, “I didn’t play finance as a kid. I played basketball.”

Growing up as the youngest of Frank and Frieda Lifshitz’s four children, Lauren didn’t know what a fashion designer was. He wanted to be either a movie star or a ballplayer. (Indeed, the numbers 3, 4, 5, and 7 that grace the sleeves of his latest Big Pony shirts are the numbers from the Yankee uniforms of Babe Ruth, Lou Gehrig, Joe DiMaggio, and Mickey Mantle.) His first memories of having a fashion aesthetic revolved around noticing details on clothes—the stitching on a pair of penny loafers or the tweed jacket that one of his teachers at DeWitt Clinton High School wore. The first car he bought was tweedy and English—a 1961 Morgan. “There is something exciting about buying something you have to save for, as opposed to people who have had these things all their lives. There is more of a discerning taste that you develop, ” he says of how his modest beginnings informed his sensibility. After attending Baruch College and spending two years in the Army, he went to work as a salesman at Brooks Brothers and then worked for several tie companies. He launched his own line in 1967 with one item of clothing for sale—a fat necktie that retailed for $7.50 when the going rate was $2.50.

Lauren’s social life is a bit of a paradox too. Despite being the public face of the brand, he avoids the social whirl. He’s happy to stay home at his Fifth Avenue duplex overlooking Central Park to watch the Yankees or the Knicks on TV. He does not like small talk and prefers to spend time with his family. The Laurens have three children: Andrew, 38, is a film producer; David, 36, works a floor below his father overseeing Polo’s branding and new media; daughter Dylan, 33, runs Dylan’s Candy Bar—an upscale confection shop that has become a tourist attraction across the street from Bloomingdale’s. Ralph’s brother, Jerry Lauren, who was the first member of the family to change his name from Lifshitz (the runner-up choice was London), oversees men’s design at the company.

Since his kids were small, Ralph has been aware of their likes and dislikes (“I knew who the Cookie Monster was,” he says). Similarly, it is not uncommon for him to turn to interns during a large meeting and ask their opinions. It is one of the ways he stays tuned in. Sometimes he listens to the peanut gallery, and sometimes he just humors them, like the time his son Andrew, then 22, announced he wanted to buy an Armani suit. “I said to him, ‘I know what you like about it. Do you want me to make you one like it?’?” remembers Lauren. Andrew stood his ground and went out and bought an Armani suit. “The worst thing I could have done is to have told him, ‘No, don’t wear that suit in the house.”’

At times he tries to please the kids; David Lauren remembers a moment in the 1990s when his dad moved Polo’s look away from safari camps and English country houses to a sleeker, more modern aesthetic. Dreadlocks and bracelets appeared on the models and hooded sweatshirts peered out from beneath tweed jackets: “When my friends and I used to walk into the store on 72nd Street,” David recalls, “there was a feeling that this was for an older person. But my dad said, ‘Okay, watch, I can make Polo really hip to you. Someplace that you and your friends will want to shop. I’m not just about mahogany paneling.'” David, a Duke University graduate, is now Polo’s senior vice president of advertising, marketing, and corporate communications. The website, which is Polo’s bestselling retail store, is one of his home runs.

David and his father are close. “We are a family of best friends,” he says of the way that the Laurens frequently vacation or spend weekends together. Another confidant of Lauren’s is the architect Charles Gwathmey. They go running together, talk about design, and agree to disagree about aesthetics. “I’m a modern architect. I still dress like a 1960s Ivy League guy. I love tweed jackets. I wear flannel pants, which is totally consistent with Ralph’s ethic. When we talk about architecture, he doesn’t understand how I can dress like I do and defend modernism as passionately as I do. And we have great debates,” says Gwathmey. “Some people find it difficult to deal with the unknown, and as an architect the unknown is the thing you try to discover. That’s my obligation, but he doesn’t think that way.”

The unknown for Polo is succession and what Ralph’s legacy will be. Lauren will not comment formally on the issue, other than to say that there are 200 designers at the company who understand his DNA and he has a seasoned management team. However, he can’t help but mention his son when the issue comes up. “My son David is certainly learning the business,” he says. “He’s not a fashion designer, but he’s a very creative person who’s in charge of all our advertising and PR, and I think he’s finding his way. As he learns more about the company, we’ll determine what his input is going to be going forward.”

When asked to assess what Polo Ralph Lauren might look like in another 40 years, industry veterans and analysts think its classical orientation gives it the potential to become a brand that outlives its founder, yet contains some of his personality the way that Chanel reflects a vision that its founder would recognize.

And Lauren, who has lately been nudging his three unmarried children about his desire to be a grandfather, would definitely like there to be a Lauren at Polo long after he’s gone. Some years ago, on the night that he received the Lifetime Achievement Award from the Council of Fashion Designers of America, Audrey Hepburn presented him with the award, fashion’s highest honor, at a glittering event at New York’s Lincoln Center. Most designers would have thrown a lavish after-party where friends and sycophants alike could come to pay homage. Fittingly, Lauren didn’t do that. Instead he and his brother and their respective families piled into a limousine and rode a few blocks away to an ice-cream parlor. There the family, dressed in ball gowns and black tie, sat and ate hot-fudge sundaes. It is the kind of image that one would expect to see in an ad … for Polo.