From the south east corner outside of the quarantine area (where you meet the man who mentions the disappearing gems) you should just have to walk west to see them. They lead to the south west corner of the quarantine fence, where a cutscene is triggered. If you happened to get there before seeing the gems, they may not show up.
Father Theofolus was in Stormfist castle? I never paid attention to the names of the group of merchants, etc in that crowd.
You need to speak to father Theofolus to get a minor quest item. After that I think he is expendable. There is no way to get rid of him through the story, but you may be able to kill him using an area effect spell can near but not directly on him (Poison Cloud works well), to prevent him from turning hostile and your character loosing reputation.
Some essential NPCs are protected from dying, and some can not be targeted or hit, so this may not work.
