Does the paternal aunt (mother's sister) prevent her deceased brother's children from inheriting, and how is my grandmother's estate distributed in this case?

Since your father passed away before your grandmother (his mother's mother), he does not inherit from her. If the grandmother passes away and leaves behind only a daughter and a son's son, her daughter receives one-half as a fixed share (fard), and the remainder goes to the son's son by way of residuary inheritance (ta'sib). The daughter does not block the son's sons from inheriting. The kinship designation in inheritance is based on the heir's relation to the deceased (the grandmother), not to your father. If the question were about your father's estate, the presence of a direct descendant (son) and the mother would block the sister from the mother's side from inheriting. Issues concerning inheritances should be submitted to the Sharia (definition) courts or discussed directly with scholars to verify all heirs, debts, wills, and rights pertaining to the estate.