I agree with the idea that it should be a bit taller. You could shape it like the thing's head, have the tentacles drip all over, and maybe have a stray tentacle act as the mug handle. That would be sweet.
I remember that when I was making a bunch of wacky stuff in my ceramics class back in High School, I spent about a week filling a 5-gallon bucket with slip. For the non-ceramically inclined, that's liquified clay you use to stick slabs of clay together.
Anyway, I was trying something similar to this, more of a zombified Bob Marley planter than anything, and I had this idea. Zombies are icky and decaying, so they should be slimey and stuff. So once I had the basic shape together, I dumped slip all over it, and I got a really cool runny, dripping flesh effect that worked perfectly. Could work well for this project as well, or maybe not. But still worth considering, I think.