C level Monsters can mutate into other creatures through sacrifice. This only works if one creature is sacrificed one at a time, and appears at this time to result in a random new creature which may be of higher tier than the original. The level of the new creature is reset to 1, regardless of the existing level of the mutated creature. When a monster is being mutated, the lightning around the pillars you see in the animation, is blue instead of purple.
It is unknown at this time what variables affect mutations, or if certain creatures have a set number of other creatures they can mutate into. At this time, the in-game documentation has very little information about this process and hopefully it will be a more developed mechanic in the future.
The in-game help states that "Sacrificing two Rank C Monsters into each other may lead to a Mutation in which the base Monster is transformed into a New Monster." In this case, the level of the mutated monster will go back to Level 1. Please note that mutations will not happen when more than one monster is consumed in a single Sacrifice. This appears to imply that mutations are entirely random.
If you have experimented with this mechanic, please post your experiences in the Talk section. Please include the tier, level and type of creature that was mutated, and the same for the one that was sacrificed, then the type and tier that was created.