Have the party ambushed by the dwarf and his own crew. Have the dwarf's party beat the PCs into unconciousness. Play the combat out so that the PCs don't immediately feel railroaded, even though the thief did steal from an 8th level NPC.
Maybe throw in a sleep spell or two to put the party out and if they do wake up or anything the only thing they should see is a fist before they black out again.
Later the party finds itself tied in a large bundle swinging by their feet, upsidedown while hanging from a lampost in the middle of town, bound, gagged, and stripped to their underwear. They are surrounded by a crowd of laughing townspeople and some of the local militia can be seen in the back chuckling behind their hands.
Twenty feet away or so they can see that their equipment has been tossed in a heap. Next to the heap is an open crate filled with rotten apples and a sign sticking out of it which faces the opposite way.
One little boy seems to be slowly reading the sign. Slowly his mouth curls into a mischieveous grin as he finishes reading. He reaches into the crate and lets an apple fly hitting one of the PCs with a juicy, yet solid smack. He then reaches into the pile and and takes an item and runs off into the crowd with his prize.
Quickly more people join in pelting the characters with rotten apples and quickly clear out the pile of equipment.
Finally the characters are cut down and let free to the accompaniment of hoots, jeers, and laughter.
If any of the characters investigate the sign it simply reads, "Hit the target, take a prize."
At this point their gear has been dispursed among the populace, possibly available for sale back to the PCs.
The dwarf has retrieved his gear, he's had his revenge, and a little harmless fun as well.
Gotta love that earthy dwarven humor.
If the theif tries and steal their gear back from the townsfolk, well it's going to be hard for any of them to blend in with the crowd.