General Motors' Ignition Switch Debacle Isn't Over Yet

General Motors' ignition switch scandal took another surprise turn last week. Image source: The Motley Fool.

In 2014 and 2015, General Motors (GM -0.04%) reported billions of dollars of charges related to its faulty ignition switch scandal. These charges represented the cost of recalling millions of vehicles, payments to a victim compensation fund, and a $900 million settlement with the Department of Justice.

The only good news for investors was that the General appeared to be moving past this scandal by the end of last year.

It isn't getting off that easily, though. On Wednesday, a federal appeals court overturned a 2015 bankruptcy court ruling that had barred customers from suing GM over damages that occurred prior to the company's 2009 bankruptcy filing. This development could theoretically open up General Motors to billions of dollars in new claims.

Liability expands

As part of the bankruptcy process in 2009, General Motors was able to leave most of its unwanted liabilities behind.

After the ignition switch problems came to light, GM voluntarily agreed to compensate certain victims who died or were injured in ignition-switch-related crashes predating its bankruptcy. Nevertheless, numerous cases were blocked by the finding that "New GM" wasn't liable for misconduct at "Old GM."

The recent appeals court decision removes -- or at least blurs -- this distinction. Judge Denny Chin reasoned that Old GM knew or should have been aware of the ignition switch defect before the bankruptcy filing, yet it did not inform customers. As a result, those customers didn't get their day in court to press their claims during the bankruptcy process. Chin argued that shielding New GM from liability in those cases would be rewarding Old GM's misconduct.

This ruling could impact some pending cases involving injuries or death. But the main effect is that it would allow a huge number of loss-of-value claims to go forward. These claims total as much as $10 billion.

The damage will probably be a lot lighter

Even with last week's ruling, the plaintiffs' lawyers face an uphill battle in any case blaming the ignition switch scandal for causing vehicles to lose value.

General Motors has already asked a federal judge to dismiss these loss-of-value class-action suits, arguing that the plaintiffs can't prove that they suffered any loss. Indeed, the plaintiffs' lawyers appear to be relying on a difficult-to-prove theory that the ignition switch defect and recalls negatively impacted resale values for the affected models.

It would be one thing if the affected models were luxury cars that were expected to retain a lot of value even after 10 years. However, pretty much all of the affected models were small, cheap, and generally mediocre cars.

The Chevy Cobalt was the most common of the recalled vehicles. A CNN Money story described it thus: "The automaker never really wanted to build the compact sedan, and it showed. Critics and car buyers alike reacted with little enthusiasm for the vehicle." The Cobalt was built solely to keep assembly plants busy and help GM meet federal fuel-economy regulations.

The Chevy Cobalt was a mediocre car from day one. Image source: Wikimedia Commons.

The same could be said for most of the other models affected by the faulty ignition switch. None of these models are still sold by GM. In fact, several were sold under the discontinued Saturn and Pontiac brands. All of these factors suggest that the affected models would not be worth much today regardless of the ignition switch issues.

What now?

It could take years before General Motors investors get the final bill for the ignition switch disaster. In all likelihood, that total will move higher due to the recent appeals court ruling, as GM will have to pay crash victims who weren't included in last year's victim compensation scheme.

Fortunately for the company, the more numerous loss-of-value claims probably won't stand up in court. Even if they do, the new GM is a stable, highly profitable company that routinely churns out multibillion-dollar quarterly profits. A worst-case-scenario $10 billion loss wouldn't seriously threaten GM's future.